Proximity to the 52-week high and the risk-return trade-off

Traditional asset pricing theory suggests a positive risk-return relationship, while empirical studies often find a negative association between risk and expected returns. In this paper, we uncover a unique pattern: a negative risk-return relationship among stocks far from their 52-week high prices and a positive relationship among stocks close to their 52-week high prices. We propose that this cross-sectional heterogeneity arises because investors evaluate stocks relative to the 52-week high, becoming risk-seeking when prices are far below this benchmark and risk-averse when prices are near it. We explore various potential explanations for this phenomenon but find no empirical support. Overall, our findings introduce a novel psychological perspective for understanding the risk-return trade-off.