What Information Does Risk Neutral Skewness Contain? Evidence From Momentum Crashes
54 Pages Posted: 27 Feb 2018 Last revised: 30 Nov 2018
Date Written: November 25, 2018
Stocks with high option-implied risk-neutral skewness (RNS) have positive abnormal returns driven by positive reversals following poor performance. This performance reversal also underlies momentum crashes. Consistent with this commonality, the RNS anomaly is strongest in periods of post-recession rebounds when momentum crashes occur. Furthermore, the momentum anomaly is strongest (weakest) in stocks with the lowest (highest) RNS, indicating a positive relationship between RNS and momentum crashes. We generalize our findings to all stocks by constructing an RNS factor-mimicking portfolio and find that a momentum strategy that avoids high skew factor loading stocks, which are more likely to experience positive performance reversals, has superior performance to both the standard and risk-managed momentum strategies. Our results hold after controlling for trading frictions, firm characteristics, and risk factors.
Keywords: Risk Neutral Skewness, Momentum, Return Predictability
JEL Classification: G12, G13
Suggested Citation: Suggested Citation