Premium
Income Hedging, Dynamic Style Preferences, and Return Predictability
Author(s) -
ADDOUM JAWAD M.,
DELIKOURAS STEFANOS,
KORNIOTIS GEORGE M.,
KUMAR ALOK
Publication year - 2019
Publication title -
the journal of finance
Language(s) - English
Resource type - Journals
SCImago Journal Rank - 18.151
H-Index - 299
eISSN - 1540-6261
pISSN - 0022-1082
DOI - 10.1111/jofi.12775
Subject(s) - predictability , portfolio , economics , exploit , econometrics , asset (computer security) , capital asset pricing model , aggregate (composite) , financial economics , computer science , mathematics , statistics , materials science , computer security , composite material
We propose a theoretical measure of income hedging demand and show that it affects asset prices. We focus on the value factor and first demonstrate that our demand estimates are correlated with the actual demands of retail and mutual fund investors. We then show that the aggregate high‐minus‐low (HML) demand predicts HML returns. Exploiting the state‐level variation in income risk, we demonstrate that state‐level hedging demands predict state‐level HML returns. A long‐short portfolio that exploits this hedging‐induced predictability earns an annualized risk‐adjusted return of 6%.