Chasing Your Own Tail (Risk), Revisited

AQR

Ashwin Thapar

Research

23 Pages

AQR Capital Management challenges the widespread use of tail-risk hedging, arguing that buying downside insurance is structurally costly and often counterproductive for long-term investors. Instead, it emphasizes portfolio construction over derivatives, suggesting many investors are effectively paying a persistent premium for protection that rarely delivers net value.

Key Takeaways

Negative Insurance Carry: Persistent option buyers face negative expected returns, with insurance strategies historically delivering lower long-term performance despite short-term crisis protection benefits.
Return Drag Evidence: A 60/40 portfolio with 5% OTM puts earned about 7.0% versus 9.0% unhedged over 8 years, implying a ~2.0% annual performance drag.
Five Structural Alternatives: Combining diversification, volatility management, and low-beta equities can reduce tail risk without sacrificing expected returns, unlike costly hedging overlays.
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