Betting Against Beta
AQR Capital Management, LLC
Lasse Heje Pedersen
AQR Capital Management, LLC; Copenhagen Business School - Department of Finance; New York University (NYU); Centre for Economic Policy Research (CEPR)
NBER Working Paper No. w16601
We present a model in which some investors are prohibited from using leverage and other investors' leverage is limited by margin requirements. The former investors bid up high-beta assets while the latter agents trade to profit from this, but must de-lever when they hit their margin constraints. We test the model's predictions within U.S. equities, across 20 global equity markets, for Treasury bonds, corporate bonds, and futures. Consistent with the model, we find in each asset class that a betting-against-beta (BAB) factor which is long a leveraged portfolio of low-beta assets and short a portfolio of high-beta assets produces significant risk-adjusted returns. When funding constraints tighten, betas are compressed towards one, and the return of the BAB factor is low.
Number of Pages in PDF File: 71
Date posted: December 13, 2010