Intermediary Asset Pricing and the Nonlinear Relation between Volatility and the Equity Size Premium
79 Pages Posted: 30 Sep 2016 Last revised: 8 Dec 2017
Date Written: August 16, 2017
Consistent with implications from recent intermediary-asset-pricing literature, we find a striking nonlinearity where the equity size premium is sizable and reliably positive only following a high 'expected stock-market volatility' threshold at about the 80th percentile. The average size premium following lower-risk market conditions is near zero and not statistically significant. Size differentials in CAPM alphas exhibit a very similar nonlinear risk-based state-contingent variation. We offer related evidence that bolsters an intermediary-asset-pricing interpretation; including the behavior of stock-versus-bond return differentials, intermediary capital ratios, and liquidity.
Keywords: Equity Size Premium, SMB factor, Intermediary Asset Pricing, Volatility Risk, Illiquidity Risk
JEL Classification: G11, G12
Suggested Citation: Suggested Citation