Title

Misspecification of CAPM : Implication for size and book-to-market effect

Document Type

Other

Publisher

Edith Cowan University

Place of Publication

Joondalup, Western Australia

Faculty

Faculty of Business and Public Management

School

School of Finance and Business Economics

Comments

Lin, C., & Sears, R.S. (2001). Misspecification of CAPM : Implication for size and book-to-market effect. Joondalup, Australia: Edith Cowan University.

Abstract

In light of the inadequacy of Sharpe’s one-period Capital Asset Pricing Model (CAPM) in explaining stock returns, this paper develops a multi-period CAPM that captures more variation in average stock returns. Specifically, the derivation of the generalized model captures growth in earnings as an additional factor besides beta. This suggests that Sharpe’s CAPM may be misspecified due to the omission of the earnings growth variable. In addition, it may explain why size and book-to-market effect found by Fama and French are significant when they are regressed along with beta since earnings growth and the two anomalies are highly correlated.

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