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Turning alphas into betas: arbitrage and the cross-section of risk

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  • Cho, Thummim

Abstract

What determines the cross-section of betas with respect to a risk factor? The act of arbitrage plays an important role. If the capital of arbitrageurs loads on a systematic factor, the assets traded by the arbitrageurs gain different sensitivities to that factor, depending on the asset positions taken by the arbitrageurs. I develop predictions about such "arbitrage-driven" betas in a model of constrained arbitrage and test them in the cross-section of equity anomalies. The arbitrage channel accounts for a substantial part of the cross-sectional variation in equity anomalies' betas in intermediary-based and multifactor asset pricing models.

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  • Cho, Thummim, 2018. "Turning alphas into betas: arbitrage and the cross-section of risk," LSE Research Online Documents on Economics 118915, London School of Economics and Political Science, LSE Library.
    • Handle: RePEc:ehl:lserod:118915
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    JEL classification:

    • G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions
    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • G23 - Financial Economics - - Financial Institutions and Services - - - Non-bank Financial Institutions; Financial Instruments; Institutional Investors

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