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The cross-section of tail risks in stock returns

Moore, Kyle and Sun, Pengfei and de Vries, Casper G. and Zhou, Chen (2013): The cross-section of tail risks in stock returns.

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Abstract

This paper investigates how the downside tail risk of stock returns is differentiated cross-sectionally. Stock returns follow heavy-tailed distributions with downside tail risk determined by the tail shape and scale. If safety-first investors are concerned with sufficiently large downside losses, i.e. have a sufficiently low risk tolerance, then in the equilibrium, assets traded in the same market share a homogeneous tail shape parameter. Furthermore, if tail shapes are homogeneous, the equilibrium prices of assets are differentiated by the scales.

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