David Blitz and Pim van Vliet, both of Robeco, and yours truly wrote a paper outlining the various explanations for the low volatility effect, Explanations for the Volatility Effect: An Overview Based on the CAPM Assumptions. The aim wasn't to trash or champion any particular approach, though I'm sure our biases show (we aren't in lock-step on this, note Blitz here vs. my approach here, which has a subtle distinction). As most papers on the low volatility focus on the data, often with very different motivations, we thought a paper addressing these various theories would be helpful.
In any case, we go over the following explanations:
In any case, we go over the following explanations:
- Leverage constraints
- Regulatory constraints
- Constraints on short-selling
- Relative utility
- Agents maximize option value
- Preference for skewness
- Crash-aversion
- one-period model
- Attention-grabbing stocks
- Representativeness bias
- Mental accounting
1 comment:
Eric, half of these seem like begging the question to me.
OK, so low vol outperforms because of a skewness preference...now what? You just restated the problem. The real question is what causes the skewness preference?
I, for one, prefer the relative wealth utility explanations, as they can explain a ton of other related effects (Easterlin paradox, for example) on top of low vol. And you can get a relative wealth utility model to generate a skewness preference very easily.
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