What drives the distress risk–return puzzle? A perspective on limits of arbitrage
View / Open Files
Publication Date
2022-03-15Journal Title
International Journal of Finance and Economics
ISSN
1076-9307
Publisher
Wiley
Type
Article
This Version
AM
Metadata
Show full item recordCitation
Sha, Y., Bu, Z., & Wang, Z. (2022). What drives the distress risk–return puzzle? A perspective on limits of arbitrage. International Journal of Finance and Economics https://doi.org/10.1002/ijfe.2608
Abstract
Empirical research has documented a negative relationship between distress risk and stock returns. This negative risk-return trade-off, known as the distress puzzle, poses a challenge to asset pricing models. In this study, we provide a new explanation of the distress puzzle by considering the effect of arbitrage asymmetry. We find that the negative distress risk-return relation is stronger in stocks that have higher limits of arbitrage. The investors are virtually unable to short sell mispriced high distress risk stocks due to the low supply of lendable stocks from institutions and that arbitrage is costly. In addition, we show that the limits of arbitrage effect is distinct from liquidity effect in explaining the distress puzzle.
Embargo Lift Date
2024-03-15
Identifiers
External DOI: https://doi.org/10.1002/ijfe.2608
This record's URL: https://www.repository.cam.ac.uk/handle/1810/334743
Statistics
Total file downloads (since January 2020). For more information on metrics see the
IRUS guide.
Recommended or similar items
The current recommendation prototype on the Apollo Repository will be turned off on 03 February 2023. Although the pilot has been fruitful for both parties, the service provider IKVA is focusing on horizon scanning products and so the recommender service can no longer be supported. We recognise the importance of recommender services in supporting research discovery and are evaluating offerings from other service providers. If you would like to offer feedback on this decision please contact us on: support@repository.cam.ac.uk