Asset pricing and co-skewness risk: evidence from India

Abstract

This paper analyses the validity of the three-moment CAPM model in the Indian context. The study is intended to find out whether co-skewness risk is priced in the Indian capital market. To analyse the validity of the three-moment CAPM model in the Indian context, a time period of around 12 years from January 1999 to June 2010 has been chosen. The sample covers 283 companies comprised in BSE-500 index of Bombay Stock Exchange of India. S&P CNX 500 index has been considered as a proxy for the market portfolio. The empirical results of the study confirm the validity of the three-moment CAPM in the Indian capital market and suggest that in addition to systematic standard deviation risk, co-skewness risk is also priced in the Indian capital market when investors price individual securities. The results of the study further show if co-skewness risk is not incorporated in the CAPM model, the traditional CAPM overestimates the expected market premium by 0.30% per month (3.67% per annum compounded annually).