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Time-Varying Leverage Demand and Predictability of Betting-Against-Beta

Last Updated on 10 February, 2024 by Rejaul Karim

The paper “Time-Varying Leverage Demand and Predictability of Betting-Against-Beta” by Esben Hedegaard explores the leverage aversion theory and its implications for the betting-against-beta (BAB) strategy.

The paper confirms empirically that returns to the BAB strategy are predictable by past market returns. The BAB strategy performs better in times when and in countries where past market returns have been high.

The paper constructs timing-strategies that are long BAB half the time and short BAB half the time, based on past market returns, and shows that these timing strategies have realized strong historical performance.

Abstract Of Paper

The leverage aversion theory implies that returns to the betting-against-beta (BAB) strategy are predictable by past market returns: An outward shift in investors’ aggregate demand function simultaneously increases market prices and increases the expected future BAB return. I confirm the prediction empirically and find that the BAB strategy performs better in times when and in countries where past market returns have been high. I construct timing-strategies that are long BAB half the time and short BAB half the time, based on past market returns, and show that these timing strategies have realized strong historical performance.

Original paper – Download PDF

Here you can download the PDF and original paper of Time-Varying Leverage Demand and Predictability of Betting-Against-Beta.

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Author

Esben Hedegaard
AQR Capital Management, LLC

Conclusion

In summary the paper “Time-Varying Leverage Demand and Predictability of Betting-Against-Beta” by Esben Hedegaard confirms the leverage aversion theory that returns to the betting-against-beta (BAB) strategy are predictable by past market returns.

The paper finds that the BAB strategy performs better in times when and in countries where past market returns have been high.

The author constructs timing-strategies that are long BAB half the time and short BAB half the time, based on past market returns, and shows that these timing strategies have realized strong historical performance.

Related Reading:

Filtered Market Statistics and Technical Trading Rules

Leverage As A Weapon of Mass Shareholder-Value Destruction; Another Look at the Low-Beta Anomaly

FAQ

What is the main focus of the paper “Time-Varying Leverage Demand and Predictability of Betting-Against-Beta”?

The main focus of the paper is to explore the leverage aversion theory and its implications for the betting-against-beta (BAB) strategy. The paper aims to empirically confirm whether returns to the BAB strategy are predictable by past market returns.

What does the leverage aversion theory imply for the BAB strategy according to the paper?

The leverage aversion theory suggests that returns to the BAB strategy are predictable by past market returns. An outward shift in investors’ aggregate demand function is expected to increase both market prices and the expected future BAB return. The paper empirically confirms this prediction.

In what conditions does the BAB strategy perform better according to the findings of the paper?

The paper finds that the BAB strategy performs better in times when and in countries where past market returns have been high. The performance of the BAB strategy is linked to the historical performance of the market.

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