The Cross-Section of Stock Returns: An Application of Fama-French Approach to Nepal

Sabin Bikram Panta,Gautam Vora,Niranjan Phuyal,Rajesh Sharma

doi:10.4236/me.2016.72024

Sabin Bikram Panta, Gautam Vora + Show 2 more

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https://doi.org/10.4236/me.2016.72024

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Journal: Modern Economy	Publication Date: Jan 1, 2016
Citations: 33	License type: CC BY 4.0

Affiliation: Kathmandu University, University of New Mexico

Abstract

We study a sample of the companies listed on the Nepal Stock Exchange (NEPSE) for the predictors of the returns on these companies’ stocks. Using the sample period of December 2004 through July 2011, we study the sample of 134 companies out of a universe of 176 companies. We construct the marketwide indicators of Fama-French approach: capitalization (Small and Big) and book-to-market ratio (Low, Middle and High). The standard CAPM and three-factor regression equations are estimated. The typical Fama and French results are not obtained. At best, the results are mixed. They show that Nepalese capital market provides excess return for big value-stocks and lower excess return for small growth-stocks. It is possible that this result is attributable to the biases in the listed corporate sector. Financial sector companies dominate the listing on the Nepal Stock Exchange. Because of the impossibility of elimination financial companies from the sample, it is impossible to be categorical about this attribution. We recommend that the study be replicated after a few years when either more companies become available or longer time series of data becomes available.

Highlights

The Fama and French (FF) three-factor model has emerged as an alternative explanation for the ongoing debateHow to cite this paper: Panta, S.B., Phuyal, N., Sharma, R. and Vora, G. (2016) The Cross-Section of Stock Returns: An Application of Fama-French Approach to Nepal
The current paper aims to improve our knowledge of the applicability of the Fama and French three-factor model in the Nepalese capital market and to contribute to the necessary accumulation of non-U.S research
Because the three-factor model is an extension of the standard Capital Asset Pricing Model (CAPM), CAPM serves as a nice benchmark

Summary

Introduction

The Fama and French (FF) three-factor model has emerged as an alternative explanation for the ongoing debateHow to cite this paper: Panta, S.B., Phuyal, N., Sharma, R. and Vora, G. (2016) The Cross-Section of Stock Returns: An Application of Fama-French Approach to Nepal. It was developed by Fama and French [1] as a result of increasing empirical evidence that the Capital Asset Pricing Model (CAPM) performed poorly in explaining realized returns [2]. Merton [8] [9], Black [10] and Williams [11] extended it in new directions, such as inter-temporal continuous-time cases, restricted borrowing and heterogeneous beliefs, respectively. It is a single-factor model which considers the beta of the asset as the only important factor to explain the required rate of return for a capital asset. Empirical tests of the three-factor model confirm significantly greater explanatory power than the one-factor CAPM (see survey of literature by Fama and French [12] on stock returns and by McLean and Pontiff [13] on anomalies)

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