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Turning alphas into betas: arbitrage and endogenous risk

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  • Cho, Thummim

Abstract

Using data on asset pricing anomalies, I test the idea that the act of arbitrage turns “alphas” into “betas”: Assets with high initial abnormal returns attract more arbitrage and covary endogenously more with systematic factors that arbitrage capital is exposed to. This channel explains the exposures of 40 anomaly portfolios to aggregate funding liquidity shocks and arbitrageur wealth portfolio shocks. My results highlight that financial intermediaries that act as asset market arbitrageurs not only price assets given risks, but also actively shape these risks through their trades.

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  • Cho, Thummim, 2020. "Turning alphas into betas: arbitrage and endogenous risk," LSE Research Online Documents on Economics 102085, London School of Economics and Political Science, LSE Library.
    • Handle: RePEc:ehl:lserod:102085
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    More about this item

    Keywords

    endogenous risk; factor beta; financial intermediaries; arbitrage; asset pricing anomalies; Paul Woolley Centre at the LSE;
    All these keywords.

    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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