Default Risk, Macroeconomic Conditions, and the Market Skewness Risk Premium

47 Pages Posted: 30 Oct 2016 Last revised: 31 May 2022

See all articles by Zhongxiang Xu

Zhongxiang Xu

University of Nottingham, University of Nottingham, Students; Nottingham University Business School

Xiafei Li

Keele Business School, Keele University; Keele Business School, Keele University

Thanaset Chevapatrakul

Nottingham University Business School

Ning Gao

Manchester Accounting and Finance Group, Alliance Manchester Business School, University of Manchester

Date Written: March 25, 2022

Abstract

Previous literature finds that stocks with low market skewness risk outperform stocks with high market skewness risk. Using the portfolio sort approach, we show that this market skewness risk premium is much more pronounced among stocks with low default risk or under good economic conditions. The premium vanishes among stocks with high default risk or under poor economic conditions. Further, the market skewness risk is negatively priced only for stocks with low default risk or in good economic times. It is not priced when firm-level default risk is high or when macroeconomic conditions are bad. Our findings suggest that the market skewness risk premium and the pricing of market skewness risk are conditional on both firm-level default risk and country-level macroeconomic conditions. This is because investors' aversion to default risk and downside market risk changes their attitudes towards positive market skewness risk.

Keywords: Asset pricing; positive skewness preference, market skewness risk premium; default risk; macroeconomic conditions; state-dependent risk aversion

JEL Classification: G01, G12

Suggested Citation

Xu, Zhongxiang and Li, Xiafei and Chevapatrakul, Thanaset and Gao, Ning, Default Risk, Macroeconomic Conditions, and the Market Skewness Risk Premium (March 25, 2022). Journal of International Money and Finance, Forthcoming, Available at SSRN: https://ssrn.com/abstract=2859983 or http://dx.doi.org/10.2139/ssrn.2859983

Zhongxiang Xu

University of Nottingham, University of Nottingham, Students ( email )

Nottingham
United Kingdom

Nottingham University Business School ( email )

Jubilee Campus
Wollaton Road
Nottingham, NG8 1BB
United Kingdom

Xiafei Li (Contact Author)

Keele Business School, Keele University ( email )

NG5 5AA
United Kingdom

Keele Business School, Keele University ( email )

Keele, ST5 5AA
United Kingdom

Thanaset Chevapatrakul

Nottingham University Business School ( email )

Jubuliee Campus
Wollaton Road
Nottingham, Nottinghamshire NG8 1BB
Great Britain

Ning Gao

Manchester Accounting and Finance Group, Alliance Manchester Business School, University of Manchester ( email )

Booth Street East
.
Manchester, M13 9SS
United Kingdom

HOME PAGE: http://www.research.manchester.ac.uk/portal/Ning.Gao.html

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