Abstract

        This paper studies the pricing of volatility risk using the first-order conditions of a long-term equityinvestor who is content to hold the aggregate equity market rather than tilting towards value stocksand other equity portfolios that are attractive to short-term investors. We show that a conservativelong-term investor will avoid such tilts in order to hedge against two types of deterioration in investmentopportunities: declining expected stock returns, and increasing volatility. Empirically, we present novelevidence that low-frequency movements in equity volatility, tied to the default spread, are priced inthe cross-section of stock returns.