IDEAS home Printed from https://ideas.repec.org/a/gam/jijfss/v3y2015i4p431-450d56484.html
   My bibliography  Save this article

Positive Alpha and Negative Beta (A Strategy for Counteracting Systematic Risk)

Author

Listed:
  • Erik Sonne Noddeboe

    (ENCF Corp, Gaasevaenget 6, 2791 Dragoer, Copenhagen, Denmark)

  • Hans Christian Faergemann

    (ENCF Corp, Gaasevaenget 6, 2791 Dragoer, Copenhagen, Denmark)

Abstract

Undiversifiable (or systematic risk) has long been an enemy of investors. Many countercyclical strategies have been developed to counter this. However, like all insurance types, these strategies are generally costly to implement, and over time can significantly reduce portfolio returns in long and extended bull markets. In this paper, we discuss an alternative technique, founded on the premise of physiological bias and risk-aversion. We take a behavioral discussion in order to contextualize the insurance like characteristics of option pricing and discuss how this can lead to a mispricing of the asymmetric relationship between the VIX and the S&P 500. To test this, we perform studies in which we find statistical inefficiencies, thereby making it possible to implement a method of hedging index option premium in a way that has displayed no monthly drawdowns in bullish periods, while still providing large returns in major sell-offs. The three versions of the strategy discussed have negative betas to the S&P 500, while exhibiting similar risk-adjusted excess returns over both bull and bear markets. Further, the performance generated over the entire period, for all three strategies, is highly statistically significant. The results challenge the weak form of the Efficient Market Hypothesis and provide evidence that the methods of hedging could be a valuable addition to an equity rich portfolio for the purpose of counteracting systematic risk.

Suggested Citation

  • Erik Sonne Noddeboe & Hans Christian Faergemann, 2015. "Positive Alpha and Negative Beta (A Strategy for Counteracting Systematic Risk)," IJFS, MDPI, vol. 3(4), pages 1-20, September.
    • Handle: RePEc:gam:jijfss:v:3:y:2015:i:4:p:431-450:d:56484
    as

    Download full text from publisher

    File URL: https://www.mdpi.com/2227-7072/3/4/431/pdf
    Download Restriction: no
    File URL: https://www.mdpi.com/2227-7072/3/4/431/
    Download Restriction: no
    ---><---

    References listed on IDEAS

    as
    1. Jackwerth, Jens Carsten, 2000. "Recovering Risk Aversion from Option Prices and Realized Returns," The Review of Financial Studies, Society for Financial Studies, vol. 13(2), pages 433-451.
    2. Hibbert, Ann Marie & Daigler, Robert T. & Dupoyet, Brice, 2008. "A behavioral explanation for the negative asymmetric return-volatility relation," Journal of Banking & Finance, Elsevier, vol. 32(10), pages 2254-2266, October.
    3. Richard H. Thaler & Eric J. Johnson, 1990. "Gambling with the House Money and Trying to Break Even: The Effects of Prior Outcomes on Risky Choice," Management Science, INFORMS, vol. 36(6), pages 643-660, June.
    4. Daniel Kahneman & Amos Tversky, 2013. "Prospect Theory: An Analysis of Decision Under Risk," World Scientific Book Chapters, in: Leonard C MacLean & William T Ziemba (ed.), HANDBOOK OF THE FUNDAMENTALS OF FINANCIAL DECISION MAKING Part I, chapter 6, pages 99-127, World Scientific Publishing Co. Pte. Ltd..
    Full references (including those not matched with items on IDEAS)

    Citations

    Citations are extracted by the CitEc Project, subscribe to its RSS feed for this item.
    as


    Cited by:

    1. Kocherlakota Satya Pritam & Trilok Mathur & Shivi Agarwal & Sanjoy Kumar Paul & Ahmed Mulla, 2022. "A novel methodology for perception-based portfolio management," Annals of Operations Research, Springer, vol. 315(2), pages 1107-1133, August.

    Most related items

    These are the items that most often cite the same works as this one and are cited by the same works as this one.
    1. Arjun Chatrath & Rohan A. Christie‐David & Hong Miao & Sanjay Ramchander, 2019. "Losers and prospectors in the short‐term options market," Journal of Futures Markets, John Wiley & Sons, Ltd., vol. 39(6), pages 721-743, June.
    2. Gurevich, Gregory & Kliger, Doron & Levy, Ori, 2009. "Decision-making under uncertainty - A field study of cumulative prospect theory," Journal of Banking & Finance, Elsevier, vol. 33(7), pages 1221-1229, July.
    3. Mohamed Es-Sanoun & Jude Gohou & Mounir Benboubker, 2023. "Testing of Herd Behavior In african Stock Markets During COVID-19 Pandemic [Essai de vérification du comportement mimétique dans les marchés boursiers africains au cours de la crise de covid-19]," Post-Print hal-04144289, HAL.
    4. Ispano, Alessandro & Schwardmann, Peter, 2017. "Cooperating over losses and competing over gains: A social dilemma experiment," Games and Economic Behavior, Elsevier, vol. 105(C), pages 329-348.
    5. Chorvat, Terrence, 2006. "Taxing utility," Journal of Behavioral and Experimental Economics (formerly The Journal of Socio-Economics), Elsevier, vol. 35(1), pages 1-16, February.
    6. Martin Kukuk & Stefan Winter, 2008. "An Alternative Explanation of the Favorite-Longshot Bias," Journal of Gambling Business and Economics, University of Buckingham Press, vol. 2(2), pages 79-96, September.
    7. Xue Dong He & Sang Hu & Jan Obłój & Xun Yu Zhou, 2017. "Technical Note—Path-Dependent and Randomized Strategies in Barberis’ Casino Gambling Model," Operations Research, INFORMS, vol. 65(1), pages 97-103, February.
    8. Iñigo Iturbe-Ormaetxe & Giovanni Ponti & Josefa Tomás, 2016. "Myopic Loss Aversion under Ambiguity and Gender Effects," PLOS ONE, Public Library of Science, vol. 11(12), pages 1-11, December.
    9. Aloysius, John A., 2003. "Rational escalation of costs by playing a sequence of unfavorable gambles: the martingale," Journal of Economic Behavior & Organization, Elsevier, vol. 51(1), pages 111-129, May.
    10. Christoph Bühren & Thorben C. Kundt, 2013. "Worker or Shirker – Who Evades More Taxes? A Real Effort Experiment," MAGKS Papers on Economics 201326, Philipps-Universität Marburg, Faculty of Business Administration and Economics, Department of Economics (Volkswirtschaftliche Abteilung).
    11. White, Tiffany Barnett & Novak, Thomas P. & Hoffman, Donna L., 2014. "No Strings Attached: When Giving It Away Versus Making Them Pay Reduces Consumer Information Disclosure," Journal of Interactive Marketing, Elsevier, vol. 28(3), pages 184-195.
    12. Alex Imas & Sally Sadoff & Anya Samek, 2017. "Do People Anticipate Loss Aversion?," Management Science, INFORMS, vol. 63(5), pages 1271-1284, May.
    13. Andersen, Steffen & Harrison, Glenn W. & Lau, Morten Igel & Rutström, Elisabet E., 2014. "Dual criteria decisions," Journal of Economic Psychology, Elsevier, vol. 41(C), pages 101-113.
      • Andersen, Steffen & Harrison, Glenn W. & Lau, Morten Igel & Rutström, Elisabet, 2009. "Dual Criteria Decisions," Working Papers 02-2009, Copenhagen Business School, Department of Economics.
    14. Freudenreich, Hanna & Musshoff, Oliver & Wiercinski, Ben, 2017. "The Relationship between Farmers' Shock Experiences and their Uncertainty Preferences - Experimental Evidence from Mexico," GlobalFood Discussion Papers 256212, Georg-August-Universitaet Goettingen, GlobalFood, Department of Agricultural Economics and Rural Development.
    15. Mohammad Reza Nikbakht & Mehrdad Sadr Ara, 2016. "A new experimental model for profit maximization," Journal of Economic and Financial Studies (JEFS), LAR Center Press, vol. 4(3), pages 45-52, June.
    16. Manel Baucells & Silvia Bellezza, 2017. "Temporal Profiles of Instant Utility During Anticipation, Event, and Recall," Management Science, INFORMS, vol. 63(3), pages 729-748, March.
    17. Darren Duxbury & Robert Hudson & Kevin Keasey & Zhishu Yang & Songyao Yao, 2013. "How prior realized outcomes affect portfolio decisions," Review of Quantitative Finance and Accounting, Springer, vol. 41(4), pages 611-629, November.
    18. Patt, Anthony G. & Bowles, Hannah Riley & Cash, David W., 2006. "Mechanisms for Enhancing the Credibility of an Adviser: Prepayment and Aligned Incentives," Working Paper Series rwp06-010, Harvard University, John F. Kennedy School of Government.
    19. Argenton, Cedric & Wang, Xiaoyu, 2020. "Litigation and Settlement under Loss Aversion," Discussion Paper 2020-008, Tilburg University, Center for Economic Research.
    20. Schmidt, Ulrich & Neyse, Levent & Aleknonyte, Milda, 2015. "Income inequality and risk taking," Kiel Working Papers 2000, Kiel Institute for the World Economy (IfW Kiel).

    Corrections

    All material on this site has been provided by the respective publishers and authors. You can help correct errors and omissions. When requesting a correction, please mention this item's handle: RePEc:gam:jijfss:v:3:y:2015:i:4:p:431-450:d:56484. See general information about how to correct material in RePEc.

    If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

    If CitEc recognized a bibliographic reference but did not link an item in RePEc to it, you can help with this form .

    If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your RePEc Author Service profile, as there may be some citations waiting for confirmation.

    For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: MDPI Indexing Manager (email available below). General contact details of provider: https://www.mdpi.com .

    Please note that corrections may take a couple of weeks to filter through the various RePEc services.

    IDEAS is a RePEc service. RePEc uses bibliographic data supplied by the respective publishers.