Is an investment’s performance the result of beta or alpha? The answer may depend on your time horizon.
The return interval over which risk is measured changes how investors view assets, according to research from finance professors Avraham Kamara (University of Washington), Robert Korajczyk (Northwestern University), Xiaoxia Lou (University of Delaware), and Ronnie Sadka (Boston College).
“What looks like systematic risk from the perspective of an investor with one investment horizon looks like abnormal returns to an investor with another horizon,” they argued.
Specifically, what looks like a beta premium to short-term investors may seem like alpha to long-term investors, the researchers found.
For the study, the four business school professors studied a sample of listed stocks between August 1962 and December 2015, using price and return data from the Center of Research in Security Prices.
Using this sample, they constructed value-weighted portfolios, which they tested using a five-factor model over horizons of 1, 3, 6, 12, 24, 36, 48, and 60 months.
Liquidity beta had a significant premium at short horizons of three and six months, while market beta showed a significant premium between 6 and 12 months. For the value/growth factor, a substantial premium appeared at an intermediate horizon of two to three years.
Size and momentum factors did not exhibit significant premia at any time horizon.
“Liquidity risk measured using short-horizon data is priced, but liquidity risk measured using long horizons is not priced,” the authors wrote. “In contrast… market and value/growth risk measured at monthly horizons are not priced, while market risk measured using six-month and annual horizons and value/growth risk measured using 24- and 36-month horizons are priced.”
Using data from the Thomson-Reuters Institutional Holdings (13F) Database, the researchers found that long-term institutional investors as a whole “significantly overweight” assets with high intermediate-horizon exposures to value/growth risk and high short-horizon exposures to liquidity risk.
“Some factors that are risky from the perspective of short-run investors may not be so from the perspective of long-run investors, and vice versa,” the authors concluded. “Long-run investors appear to be the natural bearers of systematic risk.”
Read the full report, “Short-Horizon Beta or Long-Horizon Alpha?”