The Changing Nature of Market Risk

Abstract

In the first three decades of CRSP data, value stocks have higher betas than growth stocks. Later on, the ranking is reversed and the gap in beta widens. What makes growth strategies nowadays bear more market risk than value strategies? What are the causes of the reversal in the ranking of betas? The paper argues that the negative link between beta and BM is due to growth options. The shift of listed firms towards more growth-oriented businesses has progressively changed the nature of market risk. The ultimate determinant of this evolution is conjectured to be financial market development, which has lowered the cost of capital. For this reason, the facts described in this paper resonate with other long-run phenomena, such as the rise in idiosyncratic risk and the R&D boom.

Keywords: CAPM, beta, systematic risk, valuation, value stocks, value premium, growth options, volatility

JEL Classification: G12