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Are Extreme Negative Return Events Independent of the Market?

Huijian Dong, Xiaomin Guo and Han Reichgelt
The Journal of Wealth Management Summer 2020, jwm.2020.1.099; DOI: https://doi.org/10.3905/jwm.2020.1.099
Huijian Dong
is an associate professor of Finance; the Chair of Department of Finance, Economics, and Entrepreneurship; and the Director of Merrill Lynch Wealth Management Center in Kate Tiedemann College of Business, University of South Florida St. Petersburg
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Xiaomin Guo
is an assistant professor of finance and the Manager of Merrill Lynch Wealth Management Center in Kate Tiedemann College of Business, University of South Florida St. Petersburg
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Han Reichgelt
is a professor of Information Systems & Decision Sciences and the Director of Institute for Data Analytics and Visualization in Kate Tiedemann College of Business, University of South Florida St. Petersburg
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Abstract

This study defines an extreme daily loss event as a daily return lower than 97.5% of their historical daily returns. We also define an extreme loss of an asset as forgivable if it happens during an extreme down market, and as unforgivable if the concurrent market performance is normal. We find that a half of extreme losses generated by the Russell 3000 components are forgivable, and the average forgivable loss is similar to the average unforgivable loss. After the S&P 500 Index experiences an extreme loss event, the one-day and five-day returns of assets that also undergo extreme losses concurrently are 0.9768% and 1.9495%, respectively. Without an overall market index extreme loss, the postextreme-loss recoveries of individual assets are 0.7171% and 1.6724%. Our results suggest that the high degree of equity market spectrum dispersion leads to independent individual asset price trajectories. We find that that the counts of extreme loss events do not decrease linearly as the equity market performance escalates to higher percentile categories.

TOPICS: Wealth management, performance measurement

Key Findings

  • • If an equity asset experiences extreme loss on a day when the equity market does not experience extreme loss, the average loss of the asset is −8.6344%, and the one-day and the five-day recovery returns are 0.7171% and 1.6724%, respectively.

  • • If an equity asset experiences extreme loss on a day when the equity market experience extreme loss concurrently, the average loss of the asset is −7.7803%, and the one-day and the five-day recovery returns are 0.9768% and 1.9495%, respectively.

  • • Extreme loss events are relatively independent from the equity market performance; and better market returns do not reduce the occurrence of extreme loss events.

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The Journal of Wealth Management: 25 (1)
The Journal of Wealth Management
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Summer 2022
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Are Extreme Negative Return Events Independent of the Market?
Huijian Dong, Xiaomin Guo, Han Reichgelt
The Journal of Wealth Management Feb 2020, jwm.2020.1.099; DOI: 10.3905/jwm.2020.1.099

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Are Extreme Negative Return Events Independent of the Market?
Huijian Dong, Xiaomin Guo, Han Reichgelt
The Journal of Wealth Management Feb 2020, jwm.2020.1.099; DOI: 10.3905/jwm.2020.1.099
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