Abstract
In this study I show that Fama and French's (1992) conclusion that betas do not explain the cross-section of asset returns may be due to a few implementation methods used for their tests. First, I show that post-formation portfolio returns tend to be much higher than market portfolio returns, which leads to a significant positive intercept in the Fama-MacBeth regression. Second, a majority of stocks in pre-formation portfolios migrate to other (post-formation) portfolios over a short period of time so that the cross-sectional return difference of post-formation portfolios becomes less significant. After correcting for these problems, I show that beta is cross-sectionally priced and that the estimated premium is close to the average excess market return even in the presence of size.
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