Variance Risk in Global Markets

63 Pages Posted: 29 Aug 2019

See all articles by Geert Bekaert

Geert Bekaert

Columbia Business School - Finance and Economics

Robert J. Hodrick

Columbia Business School - Finance and Economics; National Bureau of Economic Research (NBER)

Andrea Kiguel

Columbia University - Columbia Business School

Date Written: August 25, 2019

Abstract

Innovations in volatility constitute a potentially important asset pricing risk factor that can be tested using the return on variance swaps. We characterize the exposures of returns on equities, bonds and currencies in all regions of the world to U.S. based equity variance risk. We explore implications for global risk premiums and asset return comovements using developed and emerging markets. Regional portfolios across all three asset classes and practically all countries exhibit negative loadings on the variance risk factor. These exposures, combined with the average return to the variance swap, provide statistically and economically significant risk premiums, representing around 50% of the overall risk premiums implied by a simple three-factor model with global equity, bond, and variance risks. This simple three-factor model also explains a substantive fraction of the comovements between international assets. The fit is best for equity correlations and is worse for currency and across asset class correlations.

Keywords: variance risk, asset pricing, emerging market returns, currency returns

JEL Classification: G12, G15

Suggested Citation

Bekaert, Geert and Hodrick, Robert J. and Kiguel, Andrea, Variance Risk in Global Markets (August 25, 2019). Available at SSRN: https://ssrn.com/abstract=3442649 or http://dx.doi.org/10.2139/ssrn.3442649

Geert Bekaert

Columbia Business School - Finance and Economics ( email )

3022 Broadway
New York, NY 10027
United States

Robert J. Hodrick (Contact Author)

Columbia Business School - Finance and Economics ( email )

3022 Broadway
New York, NY 10027
United States

National Bureau of Economic Research (NBER)

365 Fifth Avenue, 5th Floor
New York, NY 10016-4309
United States

Andrea Kiguel

Columbia University - Columbia Business School ( email )

3022 Broadway
New York, NY 10027
United States

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