Does Volatility Management Add Value Across Regional and Global Markets?

Abstract

In this thesis, we investigate the time-series relation between risk and return by replicating the methodology of Moreira and Muir (2017) and Barroso and Santa-Clara (2015). We construct volatility-managed portfolios for the well-known Fama-French risk factors, considering both single- and multifactor portfolios. These portfolios are constructed by dynamically scaling the exposure to risk factors depending on whether volatility is high or low. We extend the strategy to markets not covered in Moriera and Muir’s (2017) study, providing global evidence of the effectiveness of volatility management. Overall, the strategy yields significant and positive alphas across most markets and factors but demonstrates regional differences. For instance, the U.S. utilizes the greatest benefits, while Japan stands as an outlier, with no significant alphas observed in either single- or multifactor portfolios. Moreover, for the other markets, the Sharpe ratio improves substantially, particularly for the single-factor portfolios, with the managed momentum factor exhibiting exceptional performance. The global multifactor portfolios excel by combining the various regional markets, resulting in a high number of significant and positive alphas. We also demonstrate that realized variance is a good proxy for forecasted variance. Finally, we validate our findings by examining three subsample periods from 1992 to 2024, revealing that the strategy’s effectiveness has diminished in recent years.

In this thesis, we investigate the time-series relation between risk and return by replicating the methodology of Moreira and Muir (2017) and Barroso and Santa-Clara (2015). We construct volatility-managed portfolios for the well-known Fama-French risk factors, considering both single- and multifactor portfolios. These portfolios are constructed by dynamically scaling the exposure to risk factors depending on whether volatility is high or low. We extend the strategy to markets not covered in Moriera and Muir’s (2017) study, providing global evidence of the effectiveness of volatility management. Overall, the strategy yields significant and positive alphas across most markets and factors but demonstrates regional differences. For instance, the U.S. utilizes the greatest benefits, while Japan stands as an outlier, with no significant alphas observed in either single- or multifactor portfolios. Moreover, for the other markets, the Sharpe ratio improves substantially, particularly for the single-factor portfolios, with the managed momentum factor exhibiting exceptional performance. The global multifactor portfolios excel by combining the various regional markets, resulting in a high number of significant and positive alphas. We also demonstrate that realized variance is a good proxy for forecasted variance. Finally, we validate our findings by examining three subsample periods from 1992 to 2024, revealing that the strategy’s effectiveness has diminished in recent years.