Bad Beta, Good Beta

58 Pages Posted: 25 Feb 2003 Last revised: 31 Oct 2010

See all articles by John Y. Campbell

John Y. Campbell

Harvard University - Department of Economics; National Bureau of Economic Research (NBER)

Tuomo Vuolteenaho

Arrowstreet Capital, LP; National Bureau of Economic Research (NBER)

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Date Written: February 2003

Abstract

This paper explains the size and value anomalies' in stock returns using an economically motivated two-beta model. We break the CAPM beta of a stock with the market portfolio into two components, one reflecting news about the market's future cash flows and one reflecting news about the market's discount rates. Intertemporal asset pricing theory suggests that the former should have a higher price of risk; thus beta, like cholesterol, comes in bad' and good' varieties. Empirically, we find that value stocks and small stocks have considerably higher cash-flow betas than growth stocks and large stocks, and this can explain their higher average returns. The poor performance of the CAPM since 1963 is explained by the fact that growth stocks and high-past-beta stocks have predominantly good betas with low risk prices.

Suggested Citation

Campbell, John Y. and Vuolteenaho, Tuomo, Bad Beta, Good Beta (February 2003). NBER Working Paper No. w9509, Available at SSRN: https://ssrn.com/abstract=383420

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Tuomo Vuolteenaho

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