Saumya Ranjan Dash ¹, Jitendra Mahakud ¹

Affiliations
1 Department of Humanities and Social Sciences IIT Kharagpur- 721 302, IN

Abstract

The basic objective of this paper is to evaluate three alternative unconditional multifactor models to explain the cross-sectional stock return behavior in the context of Indian stock market. Fama and French time series regression approach is applied to examine the impact of market risk premium, size, bookto- market equity, momentum, and liquidity as risk factors on stock return. The empirical results show that three factor proposed by Fama and French (1993) retain their significance to explain the crosssection of stock return for test asset portfolios constructed beyond size and book-to-market equity characteristics. This finding is also robust to the inclusion of momentum and liquidity factors in four and five-factor model specifications. However, inconsistent with prior literature, book-to-market equity fails to explain the average return in case of large stocks. In the case of four-factor model, we found that pricing evidence of momentum profits fades in case of winner stocks and momentum strategy retains its value only for the sell side transactions i.e., loser portfolios. When the tests allow for the inclusion of liquidity factor in an augmented four-factor model, the results suggest that liquidity is priced and explains a cross-sectional variation in stock returns. The findings suggest that given the multi-dimensional nature of risk the choice of a five-factor model is apparently persuasive for consideration in investment decisions.

Keywords

Risk Factor, Multi-factor Model, Liquidity Risk, Momentum Strategy, Stock Return

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Saumya Ranjan Dash ¹, Jitendra Mahakud ²

Affiliations
1 Institute of Management Technology Ghaziabad, IN
2 Department of Humanities and Social Sciences IIT Kharagpur- 721 302, IN

Abstract

This paper tries to analyse the role of investor sentiment on stock returns in the Indian stock market. Following the top-down approach and by using various market related implicit sentiment proxies this paper attempts to construct an investor sentiment index for the sample period spanning from February 2003 till March 2011. The impact of sentiment risk on the cross sectional return variation of several double shorted value weighted portfolios have been investigated using multivariate time series estimation approach. Empirical findings suggest that, cross-sectional return variation is attributable to the sentiment effect and investor sentiment is a priced source of risk. Consistent with the prior literature the effect holds even after controlling for systematic risk factors like market excess return, size, book-to-market equity, momentum and liquidity. The negative pricing effect of sentiment risk on stock return is attributable to the fact that, since positive sentiment results in over valuation of stocks, the expected return for such stocks will be lower in the subsequent period.

Keywords

Investor Sentiment, Liquidity, Momentum, Sentiment Risk, Stock Return, Systematic Risk Factors

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Jitendra Mahakud ¹, Saumya Ranjan Dash ²

Affiliations
1 Department of Humanities and Social Sciences, Indian Institute of Technology Kharagpur, Kharagpur, West Bengal 721 302, IN
2 Indian Institute of Management Indore, Prabandh Shikhar, Rau-Pithampur Road, Indore, Madhya Pradesh 453556, IN

Abstract

This paper tries to review the theories and empirical evidences on various issues related to alternative capital asset pricing models. First it presents a brief review on various theories of capital asset pricing models followed by the review of the studies on the testing the various single and multifactor capital asset pricing models in both unconditional and conditional framework. Further, it discusses about the alternative arguments on the role of financial market anomalies on the determination of expected stock return and presents the critical review on whether alternative multifactor asset pricing models are able to capture the role of financial market anomalies in determining the expected stock return. The review of literature on these issues conclude that conditional asset pricing models perform better as compared to unconditional models, cross sectional regularity of the stock return has been associated with various financial market anomalies like size of the company, book to market ratio, momentum, and liquidity and they are not fully explained by the alternative asset pricing models.

Keywords

Unconditional and Conditional Capital Asset Pricing Models, Expected Stock Return, Single and Multifactor Asset Pricing Models, Financial Market Anomaly.

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