Comparison of the CAPM, the Fama-French Three Factor Model and Modifications

Dossier / Travail , 2014 , 36 Pages , Note: 6,0 (Schweizer Notensystem)

Economie politique - Finances

This paper is focused on comparing the Capital Asset Pricing Model, the Fama-French Three Factor model and two modified versions of the Fama-French Model in their ability to explain excess returns. The first modified model contains the same explanatory variables as the Fama-French Model but with an additional AR(1) process. The second modification contains instead of an additional AR(1) an AR(2) process.

Evaluated by the adjusted R² and the Akaike information criterion, the Fama-French model yields a higher model-fit than the CAPM. The modified Fama-French Model with an AR(2) process leads to significant results for the twice lagged return in the model in four out of six tested portfolios. Therefore, the in-sample regression reveals a higher model-fit of the modified Fama-French model with AR(2) in comparison to the other three models.

Since the results differ from a regression in the subsequent period, the results are most likely spurious. Nevertheless, the authors show the high-er model-fit of the Fama-French Three Factor Model in relation to the CAPM.

Table of Contents

1 Introduction to Risk and Return

2 Modeling Risk
2.1 Capital Asset Pricing Model
2.2 Fama-French Three-Factor-Model
2.3 Modified Fama-French Models

3 Methodology, Portfolios and Data
3.1 Time-Series Data
3.2 Procedure of the Regression
3.3 Conducting the Regression

4 Evaluation of the Regression Results

5 Conclusion

List of References

Figures

Tables

List of Abbreviations

Appendix

Second Examination Period (1990 – 2014)

R-Code

• Université: University of Liechtenstein, früher Hochschule Liechtenstein
• Note: 6,0 (Schweizer Notensystem)
• Auteur: Christoph Lohrmann (Auteur)
• Année de publication: 2014
• Pages: 36
• N° de catalogue: V304738
• ISBN (ebook): 9783668032231
• ISBN (Livre): 9783668032248
• Langue: anglais
• mots-clé: comparison, capm, fama-french, three, factor, model, modifications