Risk appetite and (mis)pricing

This paper reexamines the beta-return relation through the lens of time-varying risk aversion. We show that the security market line (SML) depends critically on the level of aggregate risk aversion. During periods of high risk aversion, the SML exhibits a positive slope and an intercept that is statistically indistinguishable from zero, with investor sentiment playing only a minor role. During periods of low risk aversion, the SML slope becomes negative and the intercept is significantly positive. Investor sentiment affects the SML only when risk aversion is low. These patterns are robust across alternative portfolio constructions, longer investment horizons, and multiple measures of risk aversion.

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Publication Details

Journal
Journal of Banking & Finance
Published
2026-02-14
DOI
https://doi.org/10.1016/j.jbankfin.2026.107657
Primary Topic
Financial Markets and Investment Strategies
Type
article
Field-Weighted Citation Impact
0.00

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article

Risk appetite and (mis)pricing

Jiaqi Guo, Kai Li, Peng Li, Youwei Li
Journal of Banking & Finance
Financial Markets and Investment Strategies
article

Risk appetite and (mis)pricing

Jiaqi Guo, Kai Li, Peng Li, Youwei Li
article en

Abstract

This paper reexamines the beta-return relation through the lens of time-varying risk aversion. We show that the security market line (SML) depends critically on the level of aggregate risk aversion. During periods of high risk aversion, the SML exhibits a positive slope and an intercept that is statistically indistinguishable from zero, with investor sentiment playing only a minor role. During periods of low risk aversion, the SML slope becomes negative and the intercept is significantly positive. Investor sentiment affects the SML only when risk aversion is low. These patterns are robust across alternative portfolio constructions, longer investment horizons, and multiple measures of risk aversion.

Journal of Banking & FinanceVol. 186
University of Hull (GB), University of Bath (GB), University of Birmingham (GB), Macquarie University (AU)
National Natural Science Foundation of China
Decent work and economic growth
Openalex Percentile: Top 59%
Financial Markets and Investment Strategies
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