Stock Market Anomalies Have Always Elevated Finance Essay

Stock market anomalousnesss have ever elevated concerns over the pertinence of Capital Asset Pricing Model as an efficient tool to mensurate return. Many research workers across history showed market anomalousnesss for CAPM, of those research workers extensive research has been done by Roll ( 1977 ) , Banz ( 1981 ) , Bhandari ( 1988 ) , Jagadeesh ( 1992 ) , Lakonishok, Shleifer, and Vishney ( 1994 ) , Arumugam ( 1996 ) .

One of the most celebrated research workers to raise the inquiry of CAPM dependability were Fama and French ( 1992, 1996, and 2004 ) who demonstrated the inability of CAPM ‘s beta to explicate the cross-sectional stock market returns by presenting extra two other factors i.e. size and value.

In this survey, the Capital Asset Pricing Model and Fama French Model have been examined by taking a sample of 30 companies listed in the Egyptian stock exchange for a survey period of five old ages, runing from 2005 to 2010.

To guarantee the cogency of the consequences, the sample choice was made on the footing of uninterrupted presence in EGX30 index for at least five old ages without fail.

This survey tests the efficiency of Fama French ‘s Model as a dependable forecaster for returns. This is because it takes into history, non merely the Beta of the stock, but besides the size and value. There is a high correlativity between the size and value of stocks and portfolio efficiency.

We will analyze how value premiums vary with house size, whether the CAPM explains value premiums, and whether, in general, mean returns compensate I? in the manner predicted by the CAPM.

The Fama and French three factor plus pricing theoretical account was developed in response to roll uping empirical grounds that the Capital Asset Pricing Model ( CAPM ) performed ill in explicating realized returns.

The three factor theoretical account includes two extra hazard factors – size and book to market

( BM ) – The published literature has found them to be signii¬?cantly correlated with returns in developed markets.

Empirical trials of the three factor theoretical account provide greater account than the one factor CAPM. However, the huge bulk of these trials have been conducted utilizing US informations.

This survey aims to sketch how the Fama French three-factor theoretical account developed out of the demonstrated dei¬?ciencies of the one factor CAPM and related anomalousnesss research.

It so reviews anterior research on trials of the three factor theoretical account and high spots assorted restrictions within different market surveies.

Last, the aims and range of the current survey are presented in which will use the methodological analysis and describes the assorted beginnings of informations of the Egyptian stock market and so nowadayss and discusses test consequences with a drumhead and decision.


Capital Asset Pricing Model ( CAPM ) , Fama/French Model, Three Factors ‘ Model, Portfolio Management, Egyptian Stock market, Firm size and portfolio public presentation.

List of figures

Figure1: Roots of plus pricing perspectives 3

Figure 2: aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦ … aˆ¦aˆ¦

List of tabular arraies

Table1: Theoretical development of CAPM 4


Table of Contentss



Abstractaˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦ … … … … .aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦


List of figuresaˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦.aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦


List of tablesaˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦..


Acronyms aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦ .


Chapter 1- Introductionaˆ¦aˆ¦aˆ¦aˆ¦aˆ¦.aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦.aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦..


1.1. Problem Definition aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦

1.2. The importance of Study… aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦ … ..

1.3. Research Questions aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦..aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦..




Chapter 2- Asset Pricing Modelsaˆ¦aˆ¦..aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦.aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦ .


2.1 Introduction aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦.aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦ … .aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦

2.2 Empirical framework.aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦.aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦ … .aˆ¦aˆ¦aˆ¦ .



2.1.1 Test set-upaˆ¦aˆ¦aˆ¦aˆ¦aˆ¦.aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦ … .aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦ .


2.1.2 Methodologyaˆ¦aˆ¦aˆ¦aˆ¦aˆ¦.aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦ … .aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦..


Chapter 3- FF Model application, Egyptian stock marketaˆ¦aˆ¦aˆ¦aˆ¦aˆ¦.aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦ .

3.1. aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦..aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦ … .aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦ .




Decision and recommendationsaˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦ .


Referencesaˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦aˆ¦ .




Chapter1: Introduction

1.1 Problem statement

The Fundamental job actuating this survey is the demand to cognize apply different Portfolio Management Models and analyzing their pertinence, public presentation and efficiency in foretelling portfolio returns.

In this survey of plus pricing in Egyptian stock market, two inquiries are asked, First, is at that place a size and value premium in equity markets? Second, can the multifactor theoretical account of Fama and French ( 1996 ) gaining control the cross-section of mean stock returns for the Egyptian scene?

Michael and Madhu had answered the same inquiries for the Malayan stock market ( 2002 ) and their survey suggested that size and value premium exist in markets outside the USA. They found that the two mimic portfolios, ‘small minus large ‘ ( SMB ) and ‘high subtraction low ‘ ( HML ) generate a return of 17.7 % and 17.69 % per annum severally, while the market generates a return of 1.92 % per annum.

1.2 The importance of the survey

The Capital Asset Pricing Model and Fama French Model have been examined by taking a sample of 30 companies listed in the Egyptian stock exchange for a survey period of five old ages, runing from 2005 to 2010.

To guarantee the cogency of the consequences, the sample choice was made on the footing of uninterrupted presence in EGX30 index for at least five old ages without fail.

Our research will concentrate on proving the efficiency of Fama French ‘s Model as a dependable forecaster for returns. This is because it takes into history, non merely the Beta of the stock, but besides the size and value.

Consequently the chief inquiries the research will seek to reply are as follow:

1.3 Research Questions

What is Capital Asset Pricing Model?

What is Fama/French Model?

What are the differences between CAPM / Fama/French Model?

Which of those Models explain portfolio returns in an efficient deterministic manner?

How to implement both CAPM, FAMA/FRENCH in constructing a portfolio of Egyptian stocks?


Asset Pricing Models

2.1 Introduction

The academic development and the beginning of plus pricing unsimilarity started with the belief of how single penchants over the distribution of indeterminate wealth occur. Fiscal economic experts had different readings on this land which can be categorized as neoclassical based and behavioural based.

The rational construct after this paradigm displacement is related to how persons make their determinations. Persons, start with doing observations followed by treating the information coming out from those observations so comes to the terminal point in which they conclude their consequences.

As Shefrin ( 2005 ) stated, in finance, persons ‘ judgements and determinations are relevant to the construction of single portfolios, the deepness of the market which could be measured through the figure of securities listed and traded in that market, the character of net incomes prognosiss, and the mode in which securities are priced through clip. In constructing a model for the survey of fiscal markets, faculty members face a cardinal pick. They need to take a set of premises about the judgements, penchants, and determinations of participants in fiscal markets.

In the neoclassical model, fiscal decision-makers possess von Neumann-Morgenstern penchants “ reason can be modeled as maximising anA expected value ” over the distribution of indeterminate wealth, and usage Bayesian techniques to do statistical determinations from the informations at their disposal.

On the other spectrum, behavioural finance is the survey of how psychological phenomena impact fiscal behaviour. Behavioral plus pricing theory means following the deductions of behavioural premises for equilibrium monetary values. Psychologists working in the country of behavioural determination devising have produced much grounds that people do non act as if they have von Neumann-Morgenstern penchants, and do non organize judgements in conformity with Bayesian rules. Rather, they consistently behave in a mode different from both. Notably, behavioural psychologists have advanced theories that address the causes and effects associated with these systematic goings. The behavioural opposite number to von Neumann-Morgenstern theory is known as chance theory. The behavioural opposite number to Bayesian theory is known as “ heuristics and prejudices. ”

Figure1: Roots of plus pricing positions

More significantly the beginning of factors that affect the hazard premium may besides play a function to sort the theoretical accounts such as the theoretical accounts based on macroeconomic or steadfast specific factors depending upon the implicit in premises behind. However, there is a clear statement to sort the theoretical accounts on theoretical land that generalising the findings from an empirical probe is much sensible than making that by informations excavation. Table 1 studies the chief development of Capital Asset Pricing Models get downing from Markowitz mean-variance algorithm.

Capital Assest Pricing Model which was introduced by Sharpe ( 1964 ) , Lintner ( 1965 ) considers the relationship between expected return of an plus and its systematic hazard ( measured by beta ( I? ) ) . This theoretical account is more problematic today because of the restrictions of its premises such as the perfect market premise, the trouble in taking the representative portfolio, values need to be assigned to the riskless rate of return, the return on the market and the equity hazard premium ( ERP ) ,

The paper conducted by Fama and MacBeth ( 1973 ) which introduced the method to verify the empirical proof of the CAPM, after that, put a corner rock for a figure of researches proving the rightness of the CAPM theoretical account in both the developed and the emerging stock market every bit good, such as the survey handled by Theriou Chatzoglou, Maditinos and Aggelidis ( 2003 ) in the Grecian stock market, the survey of Wang and Iorio ( 2007 ) in the Chinese stock market. In the Vietnam stock market, the research by Nguyen Anh Phong ( 2012 ) besides pointed out that the deficiency of empirical consequences of the CAPM theoretical account and the desire for an alternate quantitative method with more rightness. Therefore, besides the market hazard represented by the CAPM, the demand for discover the other hazards affected stocks yield listed on the Vietnam stock market is more indispensable.

Banz ( 1981 ) , This is the first empirical survey on the relationship between the rate of return with the market monetary value of the stocks listed on NYSE. This survey is the premiss for the subsequent others measuring the consequence of the hazard graduated table to the rate of return instead than the market hazard ( beta ) in the CAPM theoretical account. The consequence showed that the hazard adjusted rate of return of little companies had been higher than the 1s of the big companies. This is indicated that the consequence of size had existed at least 40 old ages and this is grounds that the CAPM is no longer suited. The consequence showed that the being of the non-linear relationship between the size with the expected rate of return: on norm, the income of little companies is 0.4 % higher than the income of big companies. There was a negative correlativity between beta and rate of return. Banz concluded that company size may stand for hazard to the CAPM.

Basu ( 1983 ) His survey measured the relationship between net incomes – monetary value ratios ( E/P ) , houses size with rate of return. The consequence showed that the stocks with high E/P ratios earned higher mean output than the others with low E/P ratios, and the little houses tended to hold a higher mean output than the big 1s. The stocks with little size yielded higher mean rate of return than the others with big size: the mean output earned by the little stocks is 1.38 % per month, while the big houses merely produced 0.59 % per month. Similarly, the stocks with high E/P ratios had higher mean rate of return than the group with low E/P: mean output semen from the group with high E/P is 1.38 % per month while merely 0.72 % per month earned by the stocks with low E/P.

Fama and French ( 1992 ) , Fama and French ( 1993 ) The survey ( 1992 ) measuring the effects of beta, size and BE/ME ( book to market equity ) to rate of return showed the relationship between beta with output is film overing even when merely beta was separately considered without any other variables seting into the theoretical account, meanwhile the size and BE/ME variables are closely correlated to rate of return.

The research ( 1993 ) identified five hazard factors impacting the rate of return of stocks and bonds, in which, there were three market hazards of the stocks: the general market factor, the factor related to size and a factor related to the book to market monetary value ( B/M ) . The two other factors were belonged to the bond market: the term factor and the hazard of default. It is of import to observe that there was a important relationship between these five factors and the rate of return of the stocks and bonds. In normal market conditions, the alteration in net income in the short term somewhat affected the stock monetary value and the BE/ME ratio. The relationship between BE/ME with the net income differences is merely important in the long-run. Those companies had high BE/ME ratios ( market monetary value low relation to book value ) tend to protract the recession. By contrast, the 1s with low BE/ME ratios ( market monetary value high relation to book value ) tend to keep profitableness. Uniting with BE/ME, the little stocks tend to be less profitable than big stocks.

Keith S.K. Lam ( 2002 ) The survey considered the relationship between rate of return with beta, size, fiscal purchase, BE/ME, E/P in the Hong Kong stock market by the Fama-French method ( 1992 ) . This survey indicated that beta did n’t explicate the monthly mean rate of return in the Hong Kong stock market from 7/1980 to 6/1997 ; three variables: size, BE/ME and E/P, nevertheless, seems to be better in explicating the monthly mean rate of return.

correlativity )

Yuenan Wang and Amalia Di Iorio ( 2007 ) In this survey, the writers used a market value of equity stand foring for the size, in add-on, the survey besides examined the impact of other factors to the rate of return of stocks such as liquidness, the B/M ratio ( Book to market ratio ) , E/P, size… Harmonizing to Fama and MacBeth ( 1973 ) , the consequence showed that the effects of size and B/M are significance degree of 95 % , the consequence of size is -0.0041 % per month and the consequence of the B/M ratio is 0.0206 % per month, while the consequence of liquidness is -0.0074 % per month.

Nopbhanon Homsud, Jatuphon Wasunsakul, Sirina Phuangnark, Jitwatthana Joongpong ( 2009 ) This survey measured the proof of the Fama and French three factor theoretical account in the Thailand stock market from June 2002 to May 2007. The research consequence showed that the three factors model explicating the consequence of the hazard factor to the rate of return of stock is better than the traditional CAPM theoretical account.

2.Empirical model

2.1. Test set-up

The research information is calculated based on the informations of companies listed in the Egyptian stock exchange between 1st January 2005 to 1Jan 2010, the rate of return informations is based on the shutting monetary value of last month.

The rate of return of the single stocks is calculated by the expression: Rt = ln ( Pt/Pt-1 ) ,

Risk-free rate is the 1 twelvemonth authorities bond rate at the tried continuance.

The survey used the companies that were continuously listed for at least 2 old ages with uninterrupted trading.

All of stocks are divided into groups by Market value of Equity ( ME ) , so take the highest and lowest 5 % of stocks to avoid outliers in informations.

Market value of Equity ( ME ) is calculated based on the old twelvemonth ( t-1 ) figure of portions outstanding multiplied by the shutting monetary value of the last month in the computation.

Every month all the companies are divided into 2 groups: Group with ME above the intersect point ( average value ) , which we call the group of large companies ( B ) , the 2nd group is the 1 with ME below the intersect point, which we call the group of little companies ( S ) .

Book value of Equity/ Market value of Equity ( BE/ME ) ratio is divided into 3 groups: a group with the highest BE/ME ( 30 % ) is called the group H, group with medium BE/ME referred to as the group M and the last 1 with last BE/ME is known as the group L.

Finally, these groups are combined and so divided into 6 groups: S/L, S/M, S/H, B/L, B/M and B/H. For illustration, the group S/L includes the little company compared to the company with lowest BE/ME ratio.

Group SMB ( Small minus Big ) represents the hazard graduated table, SMB is the difference each month between the mean rate of return of a little group ( S/L, S/M and S/H ) compared to the mean rate of return of a big group ( B/ L, B/M and B/H )

SMB = 1/3 ( S/H + S/M + S/L ) – 1/3 ( B/H + B/M + B/L )

Group HML ( High minus Low ) represent hazard of the BE/ME ratio. HML is the difference each month between the mean rate of return of the two portfolios one with high BE/ME ( S/H and B/H ) compared to the mean rate of return of the two groups with low BE/ME ( S/L and B/L )

HML = A? ( S/ H + B/H ) – A? ( S/L + B/L )

2.2 Methodology

From Fama and French,1996, the FF theoretical account is:


Rit: is the mean rate of return on plus I at clip T.

Rft: is the return on the riskless plus at clip T ( 1 Year authorities bond return, calculated on monthly footing )

Rmt ; is the mean return on the market portfolio at clip T.

SMBt: is the accomplished return on the mimicking portfolio for the size factor at clip T.

HMLt: is the accomplished return on the mimicking portfolio for the book-to-market factor at clip T.

Army Intelligence: the intercept coefficient of the group I

Bi, Si, hello, the incline coefficient of the groups

mistake it: random mistake


FF Model Application

Egyptian stock market

Decision and recommendations


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