Managing the Risk of the Beta Anomaly
58 Pages Posted: 29 Nov 2016 Last revised: 16 Dec 2018
Date Written: December 16, 2018
The betting-against-beta (BAB) strategy has shown robust profitability. Still, much of its mystery is explained by several non-market risk factors. Yet, we find there is a hidden puzzle in BAB: its volatility has unusual predictive power for the strategy performance. Its Sharpe ratio is 1.97 after low-volatility months versus 0.23 after high-volatility ones. Remarkably, the ability of risk factors to explain BAB is totally confined to the subsample of months after high volatility, exactly when the strategy performs (predictably) worse. Controlling for lagged volatility reinforces the puzzle of the anomaly. Yet, unlike scaled momentum, scaled BAB has large downside risk.
Keywords: Betting-against-beta, BAB, volatility managed portfolios, momentum, market anomalies
JEL Classification: G11, G12, G17
Suggested Citation: Suggested Citation