Risk-Return Analysis and Stock Markets

Abstract

Efficient capital market theory postulates the random walk behaviour of stock market, i.e. risk and return are normally distributed. Capital asset pricing models, which assume the normality in risk and return, deal with how risky securities are valued in an efficient capital market. The present study applies a set of parametric and non-parametric tests to examine the normality of return and risk of daily, weekly, monthly and annual returns in the Indian stock market. The study examines the prices of the Bombay Stock Exchange (BSE)-listed indices: Sensex, BSE 100 and BSE 500 for the period 1996–2006, and three sub-periods (January 1996–December 1999, January 2000–December 2002, January 2003–December 2006) and reports the significant findings. The returns are negatively skewed for all the indices over the period. Asymmetry is found in risk and return in case of daily and weekly returns. Monthly and annual returns, however, are found normally distributed for all three indices over the period of time. These findings bring out the importance of time horizon in investment strategy for the Indian stock market.