The 'Size Premium' in Equity Markets: Where is the Risk?
We find that when measured in terms of dollar-turnover, and once β-neutralised and Low-Vol neutralised, the Size Effect is alive and well.
With a long term t-stat of 5.1, the 'Cold-Minus-Hot' (CMH) anomaly is certainly not less significant than other well-known factors such as Value or Quality.
As compared to market-cap based SMB, CMH portfolios are much less anti-correlated to the Low-Vol anomaly.
In contrast with standard risk premia, size-based portfolios are found to be virtually unskewed.
In fact, the extreme risk of these portfolios is dominated by the large cap leg; small caps actually have a positive (rather than negative) skewness.
The only argument that favours a risk premium interpretation at the individual stock level is that the extreme drawdowns are more frequent for small cap/turnover stocks, even after accounting for volatility.
This idiosyncratic risk is however clearly diversifiable.