Cross-Sectional Dispersion and Expected Returns

33 Pages Posted: 20 Feb 2016

Date Written: December 12, 2015

Abstract

This study investigates whether the cross-sectional dispersion of stock returns, which reflects the aggregate level of idiosyncratic risk in the market, represents a priced state variable. We find that stocks with high sensitivities to dispersion offer low expected returns. Furthermore, a zero-cost spread portfolio that is long (short) in stocks with low (high) dispersion betas produces a statistically and economically significant return, after accounting for its exposure to other systematic risk factors. Dispersion is associated with a significantly negative risk premium in the cross-section (-1.32% per annum) which is distinct from premia commanded by a set of alternative systematic factors. These results are robust to a wide set of stock characteristics, market conditions, and industry groupings.

Keywords: Cross-sectional dispersion, cross-section of stock returns, pricing factor

JEL Classification: G11, G12

Suggested Citation

Verousis, Thanos and Voukelatos, Nikolaos, Cross-Sectional Dispersion and Expected Returns (December 12, 2015). Available at SSRN: https://ssrn.com/abstract=2734192 or http://dx.doi.org/10.2139/ssrn.2734192

Thanos Verousis

Essex Business School ( email )

United Kingdom

Nikolaos Voukelatos (Contact Author)

University of Kent ( email )

Canterbury, Kent CT2 7PE
United Kingdom
0044 (0) 1227827705 (Phone)

HOME PAGE: http://https://www.kent.ac.uk/kbs/profiles/staff/voukelatos_nikolaos.html

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