Multi-Asset Volatility Premiums or Anomalies?

Abstract

Investors demand excess returns for assuming risk, but across many asset classes, there is mixed evidence that more volatile assets realize higher returns than do assets with lower volatility. This is the volatility anomaly. By analyzing equities, fixed income, foreign exchange, and commodities, the authors show which asset classes have volatility premiums and which have volatility anomalies. For those with volatility anomalies, they provide evidence that the anomaly may be well explained by either a time-varying volatility premium or by a premium for higher-order moments such as skew or kurtosis. The authors also show that across asset classes, a skew premium diversifies other well-known premiums. From a portfolio management perspective, this means that harvesting higher-order moment premiums can improve risk-adjusted returns in multi-asset portfolios. Their research also shows that the frequency of the signal matters for its efficacy. For volatility and skew, monthly signals may be less valuable than annual signals.