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Replicating Smart Money - A Derivative-Based Approach

Røksund, Jakob; Foss, Mikkel Nymo
Master thesis
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URI
https://hdl.handle.net/11250/2687979
Date
2020
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  • Master of Science [963]
Abstract
An option strategy, which writes short-dated out-of-the-money put options on the S&P500, is able to

replicate the risk and return characteristics of broad hedge fund indices. Further, by extending the

Carhart four factor model with this put-writing strategy, we are able to explain the alpha of a factor

which goes long low-beta stocks and shorts high-beta stocks. Traditional risk factor models estimate

annual alphas in the range 6-7% for hedge funds, and 9% for the betting-against-beta factor. Our results

suggest that both hedge funds and betting-against-beta exhibit nonlinear risks which traditional factor

models fail to capture. While betting-against-beta suffer during stressed markets, the quality-minus-junk

portfolio does not have the same crash risk. Our results suggest that the abnormal returns to BAB is

fair compensation for downside risk exposure, while the returns to QMJ remains a puzzle.
Description
Masteroppgave(MSc) in Master of Science in Finance - Handelshøyskolen BI, 2020
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Handelshøyskolen BI

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