Tests of CAPM - PowerPoint PPT Presentation

About This Presentation
Title:

Tests of CAPM

Description:

Ri and beta should be linearly related. No variable other then bi ... efficient, the betas calculated using this. proxy will be linearly related to the returns. ... – PowerPoint PPT presentation

Number of Views:75
Avg rating:3.0/5.0
Slides: 6
Provided by: elib7
Category:
Tags: capm | betas | tests

less

Transcript and Presenter's Notes

Title: Tests of CAPM


1
Tests of CAPM
  • Security Market Line (ex ante)
  • E(Ri) Rf Bi(E(RM) - Rf)
  • SML in terms of historical returns (ex post)
  • Ri Rf bi(RM - Rf)
  • Assumes
  • b values are true estimates for B
  • Index we use is the market portfolio
  • CAPM is correct
  • Regression tests
  • Ri a0 a1bi ei
  • a0 should not be different from Rf
  • a1 should be Rm - Rf
  • Ri and beta should be linearly related
  • No variable other then bi should explain R

2
Tests of CAPM
Early Studies Black, Jensen and Scholes
(1972) Fama and MacBeth (1973) Findings - a0
is higher than Rf, a1 is smaller than RM -
Rf - beta is the only measure of risk that
explains average returns - The model is linear
in beta Recent Studies Fama and French
(1992) Anomalies
3
Rolls Critique of CAPM tests
- Tests of CAPM are tests of the market
portfolios mean-variance efficiency - Market
portfolio can never be observed - As long as the
proxy used for M is ex-post efficient, the
betas calculated using this proxy will be
linearly related to the returns. - CAPM cannot
be used for performance evaluation
4
Arbitrage Pricing Theory
Return generating process Ri ai bi1F1
bi2F2 . binFn ei Taking expectations E(Ri)
ai bi1E(F1) bi2E(F2) . binE(Fn) ei Ri
- E(Ri) bi1(F1 - E(F1)) bi2(F2 - E(F2))
... bin(Fn - E(Fn)) ei or Ri E(Ri)
bi1f1 bi2f2 . binfn ei where fj Fj -
E(Fj) unanticipated change in Fj In
Equilibrium E(Ri) ?0 bi1?1 bi2?2 .
bin?n where ?0 Rf, ?1, ?2 ?n are the risk
premiums associated with each factor.
5
Roll Ross and their four factors
E(Ri) Rf Unexp Change in Inflation Unexp
Change in Industrial Prod. Unexp Change in bond
risk premium Unexp Change in yield curve
Write a Comment
User Comments (0)
About PowerShow.com