Abstract
In this article a bootstrapping routine is used to compare the efficiency of different benchmarks that can be used for measuring security price performance on the Johannesburg Stock Exchange. Four approaches are compared; three benchmarks based on the theory of the Capital Asset Pricing Model, and one, a two-factor benchmark, based on the theory of the Arbitrage Pricing Model. The findings show that, for the JSE, the two-factor approach is superior. This is consistent with prior research into the South African securities market where evidence of two clear factors influencing security returns have been found. The recommendation is that the two-factor benchmark be used for measuring security price performance on the JSE, especially for small samples where only limited benefits can be expected through the central limit theorem.
Highlights
Abnormal security returns can only be determined relative to a particular benchmark
The benchmark is required to establish what constitutes normal security returns, and the abnormal returns are the difference between the actual observed returns and those predicted by the model
In order to be truely acceptable the benchmark model must be based on sound financial theory
Summary
Abnormal security returns can only be determined relative to a particular benchmark. The benchmark is required to establish what constitutes normal security returns, and the abnormal returns are the difference between the actual observed returns and those predicted by the model.In order to be truely acceptable the benchmark model must be based on sound financial theory. The benchmark is required to establish what constitutes normal security returns, and the abnormal returns are the difference between the actual observed returns and those predicted by the model. Most benchmarks have been constructed so as to be consistent with the Capital Asset Pricing Model. Three such models have been evaluated by Brown and Warner. With the development of the Arbitrage Pricing Theory in 1976 (Ross, 1976) a theoretical framework was provided for the establishment of multi-factor benchmark models. Benchmarks of this type were initially examined by Brown and Weinstein in 1983 (Brown & Weinstein, 1985)
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