Good and Bad Variance Premia and Expected Returns

Mete Kilic () and Ivan Shaliastovich ()
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Mete Kilic: Department of Finance and Business Economics, Marshall School of Business, University of Southern California, Los Angeles, California 90007
Ivan Shaliastovich: Finance Department, Wisconsin School of Business, University of Wisconsin–Madison, Madison, Wisconsin 53706

Management Science, 2019, vol. 67, issue 6, 2522-2544

Abstract: We measure “good” and “bad” variance premia that capture risk compensations for the realized variation in positive and negative market returns, respectively. The two variance premium components jointly predict excess returns over the next one and two years with statistically significant positive (negative) coefficients on the good (bad) component. The R 2 s reach about 10% for aggregate equity and portfolio returns and 20% for corporate bond returns. To explain the new empirical evidence, we develop a model that highlights the differential impact of upside and downside risk on equity and variance risk premia. The online appendix is available at https://doi.org/10.1287/mnsc.2017.2890 . This paper was accepted by Neng Wang, finance.

Keywords: variance premium; return predictability; upside and downside risk (search for similar items in EconPapers)
Date: 2019
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Citations: View citations in EconPapers (33)

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