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RMIM-5-empirical-evidence-on-security-returns.html
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<title>Risk Management and Investment Management | Chapter 5 | Empirical Evidence on Security Returns</title>
<meta name="description" content="Financial Risk Manager Part 2 Study Materials">
<meta name="author" content="MacLane Wilkison">
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<section>
<h1>Chapter 5</h1>
<h3>Empirical Evidence on Security Returns</h3>
<p>
<small>Created for <a href="http://alchemistsacademy.com">Alchemists Academy</a> by <a href="http://alchemistsacademy.com/about">MacLane Wilkison</a></small>
</p>
</section>
<section>
<h2>The Index Model and Single-Factor APT</h2>
<p>E(r<sub>i</sub>) = r<sub>f</sub>+β[E(r<sub>M</sub>)-r<sub>f</sub>]</p>
</section>
<section>
<h2>Roll's Critique</h2>
<ol>
<li>Only one testable hypothesis relating to CAPM: the market portfolio is mean-variance efficient</li>
<li>All other implications of the model follow this assumption and, therefore, are not independently testable</li>
<li>If betas are calculated against ex-post mean-variance efficient portfolios, they will satisfy the SML relation regardless</li>
<li>CAPM is not testable unless all individual assets are included in the sample</li>
<li>A proxy for the market portfolio might be mean-variance efficient even when the true market isn't and most reasonable proxies will be highly correlated with eachother regardless of mean-variance-efficiency</li>
</ol>
</section>
<section>
<h2>Fama-French Three-Factor Model</h2>
<ul>
<li>Firm size</li>
<li>Book-to-market value</li>
<li>Market index</li>
<li>r<sub>i</sub> - r<sub>f</sub> = a<sub>i</sub> + b<sub>i</sub>(r<sub>M</sub> - r<sub>f</sub>) + s<sub>i</sub>SMB + h<sub>i</sub>HML + e<sub>i</sub></li>
</ul>
</section>
<section>
<h2>Liquidity and Asset Pricing</h2>
<ul>
<li>Liquidity composed of two factors:</li>
<ol>
<li>Transaction costs (bid-ask spread)</li>
<li>Liquidity risk resulting from covariance between changes in asset liquidity cost with changes in market-index liquidity and rates of return</li>
</ol>
</ul>
</section>
<section>
<h2>Equity Premium Puzzle</h2>
<p><em>Definition: Historical excess returns are too high and/or the usual estimates of risk aversion are too low</em></p>
</section>
<section>
<h1>THE END</h1>
<h3><a href="http://alchemistsacademy.com">AlchemistsAcademy.com</a></h3>
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