Tail Risk Concerns Everywhere

George P. Gao (), Xiaomeng Lu () and Zhaogang Song ()
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George P. Gao: T. Rowe Price, Baltimore, Maryland 21202
Xiaomeng Lu: Shanghai Advanced Institute of Finance, Shanghai Jiao Tong University, Shanghai, China
Zhaogang Song: Johns Hopkins Carey Business School, Baltimore, Maryland 21202

Management Science, 2019, vol. 65, issue 7, 3111-3130

Abstract: We show that the beta with respect to an index of global ex ante tail risk concerns (𝔾ℝ𝕀𝕏), which we construct using out-of-the-money options on multiple global assets, negatively drives cross-sectional return variations across asset classes, including international equity indices, foreign currencies, and government bond futures. The pricing power of 𝔾ℝ𝕀𝕏 becomes stronger when more asset-class-level tail risk concerns are incorporated in the index construction. 𝔾ℝ𝕀𝕏 also dominates asset-class-level tail risk concerns in pricing assets within each asset class. These evidences imply that the pricing effect of tail risk concerns works predominantly as a global channel. The 𝔾ℝ𝕀𝕏 pricing effect is distinct from that of tail risk factors based on historical realizations, consistent with the interpretation that tail risk concerns likely reflect investors’ ex ante subjective belief about tail risk.

Keywords: asset class; option; tail risk concerns (search for similar items in EconPapers)
Date: 2019
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Citations: View citations in EconPapers (37)

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