Fabio Franceschini

This paper provides empirical evidence that fluctuations in aggregate Research and Development (R&D) pose a significant risk for investors, as predicted by the 'long-run risk' literature. The analysis pivots on a definition of R&D intensity that is grounded on a limited set of flexible economic conditions from the endogenous growth literature, where deviations from the equilibrium R&D level are reflected in the error correction term of the cointegration among R&D, total factor productivity, and labor force. In US data, this process exhibits high persistence despite remaining stationary, allowing for reliable demonstration of its strong forecasting power for both productivity and consumption growth. Driving the persistent component shared by these two series, R&D intensity is argued to identify the innovation long-run risk component. This claim finds further empirical validation through evidence that R&D intensity acts as a risk factor associated with a positive risk premium in the cross-section of US stocks, as predicted by theory.

CAPM is known to empirically underestimate expected returns of low-risk assets and overestimate those with high risk. This paper studies how risks omission and funding tightness jointly contribute to explaining this anomaly, with the former affecting the definition of assets' riskiness and the latter affecting how risk is remunerated. Theoretically, the two effects are shown to counteract each other. Empirically, the spread related to binding leverage constraints is found to be significant at 2% yearly. Nonetheless, average returns of portfolios that exploit this anomaly are found to mostly reflect omitted risks, contrasting how they have been used in previous analysis.

When sustainability of assets is appreciated, its effect on the discount rates does not depend on the sustainability of the asset priced only, but it is intrinsically mediated by the risk profile of the asset itself. This has significant implications for the measurement of the actual spreads associated to sustainability concerns in financial markets as well as for hedging changes in the sustainability concerns. Specifically, (1) average returns of long-short portfolios of assets sorted on sustainability can be totally unrelated to the priced spread and (2) the effectiveness of assets in hedging changes to the sustainability concerns will depend on assets' "sustainability intensity" and their risk jointly. The main implications are tested on a ESG score measure for US stocks, revealing, in fact, a detachment between the average excess return of a high-minus-low ESG portfolio and the measured ESG spread.