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Pricing the hedging factor in the cross-section of stock returns

Kwamie Dunbar ()

The North American Journal of Economics and Finance, 2021, vol. 56, issue C

Abstract: We investigate the role of investors’ net hedging strategy (factor) in predicting stock returns and pricing the cross-section of individual stocks and equity portfolios. We estimate stock exposure to changes in the hedging factor and show that the hedging premium is driven by outperformance of stocks with large positive net hedging betas, which explains their higher average returns. We find the positive hedging premium indicates risk-averse investors demand extra compensation to hold stocks with higher equity risk premiums, and they are themselves willing to pay higher prices for stocks with positive hedging betas.

Keywords: Intertemporal capital asset pricing model; Fama-French three-factor model; Hedging risk factor (search for similar items in EconPapers)
Date: 2021
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DOI: 10.1016/j.najef.2021.101376

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Handle: RePEc:eee:ecofin:v:56:y:2021:i:c:s1062940821000152