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Factor risk premia in asset pricing models : an analysis of the upturn and downturn of the UK stock market

This doctoral thesis investigates the sign and magnitude of a number of factor risk premia between up/bull and downlbear market movements, it assesses whether the premia of risk factors beside that of the market, also exhibit asymmetry and different signs between uplbull and down/bear markets and whether the observed behaviour of such factors is justified rationally. The factors involved in this study include the market factor, higher co-moment factors relating to coskewness and cokurtosis, and the Fama and French (1996) 8MB and HML factors. The factor risk premia are estimated using the standard two-pass Fama and MacBeth (1973) procedure, adjusted when necessary considering suggestions by subsequent researchers. This doctoral study provides new evidence and a reasoned assessment on asymmetric effects, the sign, magnitude and significance of different factor risk premia in the upturn and downturn·of the UK stock market. The study finds that the stronger beta risk and return relationship during down/bear market months is linked to inflation trends. The study reports that during downward-trending inflation months investors react asymmetrically to good and bad news. The study also finds that prospect theory is a strong candidate in explaining asymmetry between up and down market months. Further, the study estimates higher co-moments based on four different methods and finds that the coskewness premium is statistically significant in a three-moment CAPM while the premium of cokurtosis is not. Applying new methods for the first time in the UK, together with previously used ones, enables comparisons across methods and robust conclusions. This is one of the first studies to investigate higher co-moment premia during up/bull and down/bear UK markets. The study also reports symmetry between up and down market months in higher co-moment premia. However, we report that the method of estimating the third co-moment coefficient contributes to the market premium asymmetry. Furthermore, the study provides first evidence on the estimated 8MB and HML premia during up/bull and down/bear UK market months and an explanation of the observed sign and magnitude of the premia. The study shows that during up/bull and down/bear market months both size and book-to-market exhibit a relationship with returns similar ro that of beta risk. These results provide further evidence on the viability of the riskbased interpretation commonly given to 8MB and HML factors.
Date January 2006
CreatorsKazanga, Demetra
PublisherHeriot-Watt University
Source SetsEthos UK
Detected LanguageEnglish
TypeElectronic Thesis or Dissertation

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