The R&D anomaly: Risk or mispricing?

Woon Sau Leung, Kevin Evans, Khelifa Mazouz

Research output: Contribution to journalArticlepeer-review


We offer new evidence on the risk versus mispricing explanations for the R&D anomaly. Return covariance with a characteristic-based factor captures the cross-sectional return variation on R&D portfolios not explained by asset pricing models. This is consistent with both covariance risk and mispricing. Under the framework of the ICAPM, we find little economic justification that an R&D factor is a proxy for innovations to a state variable. The characteristic subsumes the factor loading in direct tests, providing support to the mispricing hypothesis. Investigating the mispricing explanation further, we reject the assertion that the R&D anomaly arises from the correction of stocks mispriced by investor sentiment. A natural experiment exploiting the pilot program under Regulation SHO shows no evidence that the anomaly persists due to limits to arbitrage in the form of short sale constraints.
Original languageEnglish
JournalJournal of Banking and Finance
Early online date28 Mar 2020
Publication statusPublished - Jun 2020


  • R&D anomaly
  • covariance risk
  • mispricing


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