Article1987

Tests of Asset Pricing with Time-Varying Expected Risk Premiums and Market Betas

Wayne E. Ferson · Shmuel Kandel · Robert F. Stambaugh

188 citations0/0 files storedThe Journal of Finance

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Financial Markets and Investment Strategies Stochastic processes and financial applications Financial Risk and Volatility Modeling

Abstract

ABSTRACT Tests of asset‐pricing models are developed that allow expected risk premiums and market betas to vary over time. These tests exploit the relation between expected excess returns and current market values. Using weekly data for 1963 through 1982 on ten common stock portfolios formed according to equity capitalization, a single‐risk‐premium model is not rejected if the expected premium is time varying and is not constrained to correspond to a market factor. Conditional mean‐variance efficiency of a value‐weighted stock index is rejected, and the rejection is insensitive to how much variability of expected risk premiums is assumed.

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1964CAPITAL ASSET PRICES: A THEORY OF MARKET EQUILIBRIUM UNDER CONDITIONS OF RISK*1965The Valuation of Risk Assets and the Selection of Risky Investments in Stock Portfolios and Capital Budgets 1976The arbitrage theory of capital asset pricing 1975THE VALUATION OF RISK ASSETS AND THE SELECTION OF RISKY INVESTMENTS IN STOCK PORTFOLIOS AND CAPITAL BUDGETS**This paper is another in a series of interrelated theoretical and statistical studies of corporate financial and investment policies being made under grants from the Rockefeller Foundation, and more recently the Ford Foundation, to the Harvard Business School. The generous support for this work is most gratefully acknowledged. The author is also much indebted to his colleagues Professors Bishop, Christenson, Kahr, Raiffa, and (especially) Schlaifer, for extensive discussion and commentary on an earlier draft of this paper; but responsibility for any errors or imperfections remains strictly his own.[Professor Sharpe's paper, “Capital Asset Prices: A Theory of Market Equilibrium Under Conditions of Risk” (Journal of Finance, September 1964) appeared after this paper was in final form and on its way to the printers. My first section, which parallels the first half of his paper (with corresponding conclusions), sets the algebraic framework for sections II, III and VI, (which have no counterpart in his paper) and for section IV on the equilibrium prices of risk assets, concerning which our results differ significantly for reasons which will be explored elsewhere. Sharpe does not take up the capital budgeting problem developed in section V below.]1973An Intertemporal Capital Asset Pricing Model 1988A Capital Asset Pricing Model with Time-Varying Covariances 1988Permanent and Temporary Components of Stock Prices 1977

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