Conditional Skewness in Asset Pricing Tests

Authors

  • Campbell R. Harvey,

  • Akhtar Siddique

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    • The authors are from Duke University and Georgetown University respectively. We appreciate the comments of Philip Dybvig, Stephen Brown, Alon Brav, S. Viswanathan, and seminar participants at Georgetown, Indiana University, the University of Toronto, the 1996 WFA (Oregon), and the AFA (New Orleans) meetings. We appreciate the helpful comments of an anonymous referee and the detailed suggestions of the editor.

Abstract

If asset returns have systematic skewness, expected returns should include rewards for accepting this risk. We formalize this intuition with an asset pricing model that incorporates conditional skewness. Our results show that conditional skewness helps explain the cross-sectional variation of expected returns across assets and is significant even when factors based on size and book-to-market are included. Systematic skewness is economically important and commands a risk premium, on average, of 3.60 percent per year. Our results suggest that the momentum effect is related to systematic skewness. The low expected return momentum portfolios have higher skewness than high expected return portfolios.

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