The pricing of firm-specific risk in emerging markets

Abstract

This paper finds that a zero-investment strategy that goes long (short) in the highest (lowest) quintiles of firm-specific risk earns overall positive excess returns across twenty-one emerging markets. Interestingly, in previous studies such returns were found to be negative for the US and developed markets. Nevertheless, the risk-adjusted alphas of the capital asset pricing model, the Fama and French model and the Carhart model are mostly negative for a number of emerging markets. Thus, the puzzling negative premiums associated with firm-specific risks are ultimately reconciled across global equity markets. The impetus for such negative premiums is primarily given by the firms with the lowest firm-specific risk, as these firms are hedged against market based risks and have significant positive alphas.