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Abstract
The authors assess the exposure of stock portfolios sorted by total volatility to interest rate risk and determine whether this nonequity risk can explain differences in risk and risk-adjusted returns between low- and high-volatility portfolios over a 25-year period for U.S. equities. They find that the addition of an interest rate risk factor to the four-factor model reveals a small but positive duration for low-volatility portfolios. However, this new factor fails to improve the explanatory power of the model for both low- and high-volatility portfolios and has no significant impact on the portfolios’ risk-adjusted return. The authors find that interest rate factor loadings are fairly robust across different specifications of the multifactor model for low-volatility portfolios but are unstable for high-volatility portfolios. For all volatility portfolios under study, the significance of the results is highly dependent on the choice of time period.
TOPICS: Analysis of individual factors/risk premia, equity portfolio management, volatility measures
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