Beta Dispersion and Market Timing

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This paper examines the informational content of the beta dispersion and its timevariation for the subsequent market return. The dispersion of betas, which is the spread between highest and lowest betas on a market, can be interpreted as a risk measure for the likelihood of market crashes and therefore function as a predictor of following market downturns. Based on the beta dispersion and on the highest
betas on a market, this paper develops indicators to predict the subsequent market return. These indicators have substantial predictive power for future market movements, even if controlled for other well-known predictors of the market return. Moreover, the informational content of the bet dispersion is exploited by markettiming strategies. A new and innovative idea of designing market-timing strategies based on the successful indicators is introduced. In contrast to usual market-timing strategies the new approach invest in the market portfolio with a weighted position on the currently observed indicator. The market-timing strategies are able to considerably enhance the risk-return characteristics compared to a buy and hold investment in the market, especially by reducing the return volatility dramatically.

Author(s):

Laura-Chloé Kuntz    
University of Goettingen
Germany