The Betting Against Beta Anomaly: Fact or Fiction?
16 Pages Posted: 16 Dec 2015
Date Written: December 15, 2015
This paper suggests an alternative explanation for the recently documented betting against beta anomaly. Given that the equity of a levered firm is equivalent to a call option on firm assets and option returns are non-linearly related to underlying stock returns, linear CAPM-type regressions are generally misspecified. We derive theoretical expressions for the pricing error and analyze its magnitude using numerical examples. Consistent with the empirical findings of Frazzini and Pedersen (2014), our pricing errors are negative, increase with leverage, and become economically significant for higher levels of firm leverage.
Keywords: Asset Pricing, Performance Measurement, Abnormal Return, Systematic Risk
JEL Classification: G11, G12, G13, G15
Suggested Citation: Suggested Citation