The Intertemporal Relation between Risk and Returns in Australia

Abstract

We explore the intertemporal relation between the conditional mean and the conditional variance of the industry portfolio returns and Fama-French 25 Size/Book-to-Market portfolio returns in Australia using a bivariate generalized autoregressive conditional heteroskedasticity (GARCH) model. We estimate a portfolio's conditional covariance with the market and test whether the conditional covariance can help predict the time-variation in the portfolio's expected returns. Our results show that there is no significant relation between asset returns and market returns. We also examine asset returns with size and value factors, and we find that size and value factors only matter for the Size/Book-to-Market portfolios, but not for the industry portfolios. Lastly, we examine the role of the macroeconomic variables in determining the time-variation of asset returns, and there is no evidence of the relationship between asset returns and the macroeconomic variables.