...macroeconomic variables that help explain quarterly beta. Answer 1.1 Factors Introduction Factor model survey the sensitivity of a stock return as a function of one or more factors. There are single-factor and multi-factor models. In factors model, based on the type of factors used, it can be classified to economic and fundamental factor models. Economic factor models use macroeconomic and financial markets variables as factors, while fundamental factor models use firm-specific microeconomic variables, such as financial indicators. In recent research shows that the change in macroeconomic factors could be reflected in the change of systematic risk which impacts a stock’s expected return (Humpe & Macmillan 2007). Macroeconomic factors included industry production index, CPI, GDP, unemployment rate, inflation rate, risk premium, default premium, business cycle index and so on. From Chen (1986) notable study which uses variables include industrial production, inflation, risk premium, term structure, market index, consumption and oil prices to found out that industrial production, unanticipated change in the risk premium, unanticipated inflation, and, a slightly weaker, the unanticipated change in term structure, are the most important factors affecting expected stock returns. The 15 macroeconomic variables used as factors in our model are shown in Data Exhibit. Moreover, we choose five firm specific factors which are important to indicate a company’s financial situation....
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...Capital Asset Pricing Model Introduction One factor model that extends the capital asset pricing model (CAPM), adding size and value factors in addition to market risk factor in CAPM. This model considers the fact that the cost and small-capitalization stocks outperform the market on a regular basis. Including these two additional factors that corrects the model for the outperformance trend, which is thought to make it a better tool for evaluating the effectiveness of a manager. FAMA and French tried to better assess the market returns, and based on research, it was found that the value of the shares outperform growth stocks; In addition, small cap stocks tend to outperform large cap stocks. As an instrument of evaluation, the effectiveness of the portfolio with a large number of small cap or value stocks will be lower than the CAPM results, the three factor model adjusts down to small cap and value outperformance. There is much debate about how, outperformance is due to the tendency of market efficiency or inefficiency of the market. On the efficiency side of the debate, outperformance, how to explain that the risk of exceeding cost and small-capitalization stocks face as a result of their high cost of capital and increased business risk. On the ineffectiveness of the parties, outperformance is explained by market participants mispricing the value of those companies, which provides the excess return over the long term as the value is adjusted. The model for asset pricing...
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...Would you invest in DFA? Yes due to steady returns provided by the company and as investors are generally past performance chasers, one has no reason not to invest in DFA. The company was founded on a sound investment style based on its core belief in sound academic research, passive fund management. Until almost the end of the 20th century DFA had found a way to make money actively with a passive investment strategy. But looking forward, according to me it needs to evolve with the times and look for questions regarding its own strategy and its evolution with the times and the questions facing the financial future. As highlighted by the boom in the I.T sector towards the end of the last century that DFA missed out on completely, DFA on principle is always poised to miss out on new technology companies, as they intrinsically have low book to market value. Also my another objection to DFA’s selection of small cap stocks only is that these category of companies are among the worst hit companies during a financial crisis because of their limited access to credit and most of these companies don’t survive a major recession. Even some proponents of the efficient market hypothesis have argued that due to DFA and similar companies investing in this particular style, this style’s edge had been eroded. Lastly many prominent academicians and financial institutions have called into question the efficacy of the efficient market theory due the financial bubble created in...
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...Discuss potential explanations for the Security Market Line has been flatter than the Capital Asset Pricing Model (CAPM) would predict. Student Name: Jiaxin Shen Student Number: 100103708 Word count: 1227 Discuss potential explanations for the Security Market Line has been flatter than the Capital Asset Pricing Model (CAPM) would predict. The Capital Asset Pricing Model is based on asset portfolio theory and capital market theory. It emphasizes on the study of the relation between the expected return of asset and risky asset in the securities market. As one of prediction models based on the balance of risky asset expected return, CAPM elaborates on the formation of market equilibrium in the case of investors through Markowitz’ theory to investment management. (Pennacchi, 2008) It shows that a sample liner relation about expected return of asset and expected risks. In the model, beta is a significant parameter, since it measures the expected risks of assets. The Capital Asset Pricing Model has been widely adopted by investors, however, it has some limitation. The relation between beta and average return is too flat is confirmed in time-series tests. It is described by the the Security Market Line. Black, Jensen and Scholes (1972) concentrated their attention on the security market line. If the portfolio is efficient, which means there is a positive relation between beta and expected return. The study of Fama and MacBeth (1973) mainly focus on predicting the future returns...
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...INVESTMENTS - DFA Case study Introduction Dimensional Fund Advisors, further referred to as DFA, is an investment company that bases its strategy mainly on academic research and related theories. They work together with proponents of the efficient market hypothesis, indicating a relatively strong belief in this theory and thus in efficient markets. However DFA also feels that skilled traders have the ability to contribute to a fund’s profits even when the investment is inherently passive and DFA does adjusts its strategy to new findings in the field. In this report we will evaluate the relevance and accuracy of the theories used by DFA, especially the value premium and the size premium where almost all of their funds are based upon. This will lead to comments on the usefulness of these theories to increase the return of DFA’s funds and to recommendations about changes in strategy that will enhance the performance of DFA overall. Performance and strategy so far DFA has performed relatively well over the years, aside from some relatively rough patches in the late 1990s. Growth of the company had been stable and profits high. There was no need to sell shares for liquidity reasons and shares were only sold if they did not fit into a fund anymore. This didn’t happen very often though as DFA had several funds that were “connected”, when a stock in the Micro Cap portfolio grew too big it could be placed into a fund with bigger companies (Small Cap portfolio). An important...
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...than “growth” stocks (high P/E multiples). This could suggest a strategy for earning higher returns over time. However, another rational argument may be that traditional forms of CAPM (such as Sharpe’s model) do not fully account for all risk factors which affect a firm’s price level. A firm viewed as riskier may have a lower price and thus P/E multiple. b. The book-to-market effect suggests that an investor can earn excess returns by investing in companies with high book value (the value of a firm’s assets minus its liabilities divided by the number of shares outstanding) to market value. A study by Fama and French 1 suggests that book-to-market value reflects a risk factor that is not accounted for by traditional one variable CAPM. For example, companies experiencing financial distress see the ratio of book to market value increase. Thus a more complex CAPM which includes book-to-market value as an explanatory variable should be used to test market anomalies. c. Stock price momentum can be positively correlated with past performance (short to intermediate horizon) or negatively correlated (long horizon). Historical data seem to imply statistical significance to these patterns. Explanations for this include a bandwagon effect or the behavioralists’ (see Chapter 12) explanation that there is a tendency for investors to underreact to new information, thus producing a positive serial correlation. However, statistical significance does not imply economic significance. Several studies...
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...Journal of Financial Economics 49 (1998) 283—306 Market efficiency, long-term returns, and behavioral finance Eugene F. Fama* Graduate School of Business, University of Chicago, Chicago, IL 60637, USA Received 17 March 1997; received in revised form 3 October 1997 Abstract Market efficiency survives the challenge from the literature on long-term return anomalies. Consistent with the market efficiency hypothesis that the anomalies are chance results, apparent overreaction to information is about as common as underreaction, and post-event continuation of pre-event abnormal returns is about as frequent as post-event reversal. Most important, consistent with the market efficiency prediction that apparent anomalies can be due to methodology, most long-term return anomalies tend to 1998 Elsevier Science S.A. All rights disappear with reasonable changes in technique. reserved. JEL classification: G14; G12 Keywords: Market efficiency; Behavioral finance 1. Introduction Event studies, introduced by Fama et al. (1969), produce useful evidence on how stock prices respond to information. Many studies focus on returns in a short window (a few days) around a cleanly dated event. An advantage of this approach is that because daily expected returns are close to zero, the model for expected returns does not have a big effect on inferences about abnormal returns. * Corresponding author. Tel.: 773 702 7282; fax: 773 702 9937; e-mail: eugene.fama@gsb.uchicago. edu. The comments of Brad Barber, David...
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...Journal of Financial Economics 49 (1998) 283—306 Market efficiency, long-term returns, and behavioral finance Eugene F. Fama* Graduate School of Business, University of Chicago, Chicago, IL 60637, USA Received 17 March 1997; received in revised form 3 October 1997 Abstract Market efficiency survives the challenge from the literature on long-term return anomalies. Consistent with the market efficiency hypothesis that the anomalies are chance results, apparent overreaction to information is about as common as underreaction, and post-event continuation of pre-event abnormal returns is about as frequent as post-event reversal. Most important, consistent with the market efficiency prediction that apparent anomalies can be due to methodology, most long-term return anomalies tend to disappear with reasonable changes in technique. 1998 Elsevier Science S.A. All rights reserved. JEL classification: G14; G12 Keywords: Market efficiency; Behavioral finance 1. Introduction Event studies, introduced by Fama et al. (1969), produce useful evidence on how stock prices respond to information. Many studies focus on returns in a short window (a few days) around a cleanly dated event. An advantage of this approach is that because daily expected returns are close to zero, the model for expected returns does not have a big effect on inferences about abnormal returns. * Corresponding author. Tel.: 773 702 7282; fax: 773 702 9937; e-mail: eugene.fama@gsb.uchicago. edu. The comments...
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...of asset pricing theory: the returns to value and momentum strategies and also, the comparison of volatility models. Our analysis is divided in two parts: in the first, we provide a monthly view on 115 stocks from the S&P 500 index for the past twenty four years and the respective return premia resulting from value and momentum strategies. In the latter part, the main goal is to test different volatility models by analyzing historical data from Microsoft stocks. Therefore, we follow the structure of Asness et al. (2013) while analyzing value and momentum, and used the methodology of several authors to define and calibrate the data. Our results are in line with the literature since we detected return premium for value and also for momentum. Nevertheless, not all of the conclusions of the literature are confirmed in our analysis, as we will demonstrate. On the second section, ARCH (5), GARCH (1,1) and Taylor/Schwert GARCH(1,1) models are tested revealing the supremacy of the latter. Key words: Market efficiency, Value, Momentum, ARCH, GARCH, Taylor/Schwert, Volatility Models. 1. Introduction Our research is mainly related with the recent literature published on global asset pricing. We have followed Asness et al. (2013) where the authors present evidence of value and momentum return premia across eight different asset classes and markets. Moreover, Fama and French (2012) examine the returns to size, value, and momentum in individual stocks. The main characteristic of financial...
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...Size and Performance of Chinese Mutual Funds: The Role of Economy of Scale and Liquidity* Ke Tanga,b, Wenjun Wanga and Rong Xub a) Hanqing Advanced Institute of Economics and Finance, Renmin University of China b) School of Finance, Renmin University of China * Contact Author: Ke Tang, Hanqing Advanced Institute of Economics and Finance and School of Finance, Renmin University of China. Email: ketang@ruc.edu.cn. We wish to thank participants in the European Financial Management Association Symposium on Asian finance (Beijing) for helpful comments. We are also grateful to the anonymous referee whose suggestions greatly improved the paper. Tang acknowledges financial support from the Fundamental Research Funds for the Central Universities, and the Research Funds of Renmin University of China. Electronic copy available at: http://ssrn.com/abstract=1933647 Size and Performance of Chinese Mutual Funds: The Role of Economy of Scale and Liquidity Abstract Using a detailed stockholding for a comprehensive sample of Chinese open-end equity mutual funds from 2004 to the first half of 2010, we investigated the effect of economy of scale and liquidity on the relationship between fund size and performance. We find that an inverted U-shape relationship exists between fund size and performance as measured by various performance benchmarks. Both economy of scale and liquidity play important roles in Chinese mutual funds. Furthermore, their combined effect explains the...
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...Journal Of Financial And Strategic Decisions Volume 8 Number 2 Summer 1995 EXPLANATION OF INDUSTRY RETURNS USING THE VARIABLE BETA MODEL AND LAGGED VARIABLE BETA MODEL Thomas M. Krueger* and Mohammad H. Rahbar* Abstract Beta is found to be a function of several leading economic indicators and government policy variables within the context of the Variable Beta Model which incorporates economic characteristics in the single index model in a multiplicative manner. When contemporaneous macroeconomic descriptors are replaced with reporting-period-lagged macroeconomic descriptors, in the Lagged Variable Beta Model, model explanatory power increases. Findings suggest that the lagged beta model is more likely to satisfy the ordinary least squares assumptions of serially independent error terms. INTRODUCTION Beta as a measure of priced risk is again under attack. Fama and French's [10,11] finding that the single index market model (SIMM) does not describe the last 50 years of average stock returns has been widely reported. Such a finding has widespread implications for corporate finance and investment management. Capital budgeting has frequently been based upon the belief that a higher return was required from projects with more volatile cash flows under the assumption that the volatile cash flows are at least partially dependent upon systematic factors. Firms which have based a portion of their appeal on the basis of their high beta and assumed higher rates of return may see...
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...as' known Stock market: (ESMs). Segall and Raachou, 1998; Fama and French, 1996 1996 Macqueen), which consists of checking the efficient market hypothesis efficient market and random walk model concepts for monitoring the performance of the market which are the most common, Some studies are clear that stock returns against random walk hypothesis, which includes predictableessentials. Recent research in Asia, Latin America, (Griebandreyes, 2005) in (urritia, 2004) (pyum and Ayaid, 2002) showed by. Shows random walk hypothesis for emerging markets may be appropriate. Getting the highest return for the stock market and random walk a short proof test Autocorrelation returns should be a difference between the performances of market. Now. Autocorrelation (serial correlation coefficient) of stock returns in the current period and in previous years the relationship between the measured value. Most of the early studies on weak performance analysis platform, developed on the market sequential Correlation a lesser degree of transaction costs and considering the weak form of market efficiency, with financial assistance grant (Working, 1934; Kendall, 1943, 1953; Cootner, 1962; Osborne, 1962; Fama, 1965). All of the studies suggest that price changes are random changes and past transaction costs taken into account, especially since the future price variations were not useful in predicting support. However, there (e.g., Fama and French, for 1988; Poterba and Summers, 1988) of share predictability...
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...Overview Momentum is a phenomenon shows that well-performed stocks continue to outperform their peers while poor-performed stocks continue to underperform. Thus, more mutual funds use this powerful strategy to draw a broad range of investors by getting higher risk-adjusted returns. AQR is a hedge fund based in Greenwich, Connecticut, offering investing products that applies price phenomenon known as momentum. This case study enables investors to get a closer look at AQR’s momentum fund. Comparison of momentum specifications In order to analyze the momentum effect of different specifications, stocks were divided into ‘winner’ stocks and ‘loser’ stocks according to their rankings. From the data we can see that the decile spread portfolio return is the highest among these momentum specifications. One may argue that the spread between decile 10 and decile 1 is largest and it also has the highest volatility. After adjusting for volatility (using Sharpe Ratio), the decile spread momentum advantage is reduced but still very significant. According to Figure 1.1 and 1.2, raw spread returns witness a sharp decrease as the chosen percentile of highest and lowest stock return increases. After adjusted by volatility, the difference becomes flatter but still significant. From the graphs we can see that the volatility-adjusted return of decile spread is higher than the UMD spread, which means buying top 10% winner stocks and shorting bottom 10% loser stocks earns more profit than buying...
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...Journal of Accounting and Economics 55 (2013) 206–224 Contents lists available at SciVerse ScienceDirect Journal of Accounting and Economics journal homepage: www.elsevier.com/locate/jae Cost of capital and earnings transparency$ Mary E. Barth a,n, Yaniv Konchitchki b, Wayne R. Landsman c a Graduate School of Business, Stanford University, Stanford, CA 94305, USA Haas School of Business, University of California at Berkeley, Berkeley, CA 94720, USA c Kenan-Flagler Business School, University of North Carolina at Chapel Hill, Chapel Hill, NC 27599, USA b a r t i c l e in f o abstract Article history: Received 22 December 2008 Received in revised form 19 November 2012 Accepted 23 January 2013 Available online 1 February 2013 We provide evidence that firms with more transparent earnings enjoy a lower cost of capital. We base our earnings transparency measure on the extent to which earnings and change in earnings covary contemporaneously with returns. We find a significant negative relation between our transparency measure and subsequent excess and portfolio mean returns, and expected cost of capital, even after controlling for previously documented determinants of cost of capital. & 2013 Elsevier B.V. All rights reserved. JEL classification: D8 G12 M4 M41 Keywords: Cost of capital Earnings transparency 1. Introduction This study provides evidence that firms with more transparent earnings enjoy a lower cost of capital. Firms with more transparent earnings are those whose earnings...
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...likely preferred by the target shareholders who are facing high uncertainty. Unlike US experience, we fail to find statistical evidence that equity offers reduce bidders’ firm value. Further, while the bidder shareholders gain on average wealth of 1.8% from the M&A transactions, whether they pay in cash or equity, they earn positive 0.1% or 3.5% gain, respectively. These results contradict to the conventional asymmetric information model where market valuation of bidder’s equity plays an important role for the determination of payment alternatives. While examining the wealth gains of target shareholders, we find statistical evidence that cash payments are preferred to equity payments. Further, if they are paid by cash (equity), they earn 6.2% (-5.1%) gain. We conclude that under the liquidity-scarce and uncertain situation, cash is king! Sellers prefer cash rather than taking risk for future higher return. The use of buyer cash would attract more sellers. Buyers prefer equity payments not because of their equity’s overvaluation (conventional model), but because of their cash saving for their lucrative takeovers. Key words: acquisition, merger, payment methods, means of payment,...
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