A New Investment Technology: The ZCAPM

Abstract

This paper constructs portfolios of stocks with superior investment performance relative to a general market index. Portfolios are formed with different levels of sensitivity to cross-sectional return dispersion among all stocks in the market. We find that, for U.S stock returns in the period 1965 to 2015, zero-investment port-folios that are long positively sensitive stocks and short negatively sensitive stocks earn as much as 2.67 percent per month on average. Further analyses combine these long/short portfolios with the CRSP index to show that superior aggregate indexes can be constructed that take into account return dispersion sensitivity. For example, given similar total risk as measured by the standard deviation of returns over time, our aggregate index earns approximately 1.50 percent per month compared to 0.89 percent for the CRSP index, thereby boosting performance by about 70 percent. Based on these and other results, we conclude that return dispersion enables the creation of high performing investment portfolios.

Keywords: Investment Portfolios, Market Index, Return Dispersion

JEL Classification: C30, G11, G12