Search results for "Skewness risk"

Aggregation of preferences for skewed asset returns

2014

This paper characterizes the equilibrium demand and risk premiums in the presence of skewness risk. We extend the classical mean-variance two-fund separation theorem to a three-fund separation theorem. The additional fund is the skewness portfolio, i.e. a portfolio that gives the optimal hedge of the squared market return; it contributes to the skewness risk premium through co-variation with the squared market return and supports a stochastic discount factor that is quadratic in the market return. When the skewness portfolio does not replicate the squared market return, a tracking error appears; this tracking error contributes to risk premiums through kurtosis and pentosis risk if and only …