A new approach to measuring riskiness in the equity market: Implications for the risk premium

Turan G. Bali, Nusret Cakici and Fousseni Chabi-Yo

Journal of Banking & Finance, 2015, vol. 57, issue C, 101-117

Abstract: We introduce a new approach to measuring riskiness in the equity market. We propose option implied and physical measures of riskiness and investigate their performance in predicting future market returns. The predictive regressions indicate a positive and significant relation between time-varying riskiness and expected market returns. The significantly positive link between aggregate riskiness and market risk premium remains intact after controlling for the S&P 500 index option implied volatility (VIX), aggregate idiosyncratic volatility, and a large set of macroeconomic variables. We also provide alternative explanations for the positive relation by showing that aggregate riskiness is higher during economic downturns characterized by high aggregate risk aversion and high expected returns.

Keywords: Time-varying riskiness; Risk-neutral measures; Physical measures; Expected returns; Equity premium (search for similar items in EconPapers)
JEL-codes: G11 G12 G14 G33 (search for similar items in EconPapers)
Date: 2015
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (10)

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Persistent link: https://EconPapers.repec.org/RePEc:eee:jbfina:v:57:y:2015:i:c:p:101-117

DOI: 10.1016/j.jbankfin.2015.03.005

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