Stability of Beta over Market Phases

Topics: Capital asset pricing model, Regression analysis, Financial markets Pages: 60 (10856 words) Published: April 16, 2013
International Research Journal of Finance and Economics
ISSN 1450-2887 Issue 50 (2010)
© EuroJournals Publishing, Inc. 2010

Stability of Beta over Market Phases: An Empirical Study on
Indian Stock Market
Koustubh Kanti Ray
Assistant Professor, Financial Management at Indian Institute of Forest Management (IIFM), Bhopal, India.
The significant role played by beta in diverse aspects of financial decision making has forced people from small investors to investment bankers to rethink on beta in the era of globalization. In the present changing market condition, it is imperative to understand the stability of beta which augments an efficient investment decisions with additional information on beta. This study examined the stability of beta for India market for a ten year period from 1999 to 2009. The monthly return data of 30 selected stocks are considered for examining the stability of beta in different market phases. This stability of beta is tested using three econometric models i.e. using time as a variable, using dummy variables and the Chow test. The results obtained from the three models are mixed and inconclusive. However there are 9 stocks where all the three models reported similar signal of beta instability over the market phases.

Keywords: Stability of Beta, Phase wise beta, Indian Market Beta, Dummy Variable, Chow Test

1. Introduction
The Capital Asset Pricing Model (CAPM) developed by Sharpe (1964), Lintner (1965) and Mossin (1966) has been the dominating capital market equilibrium model since its initiation. It continues to be extensively used in practical portfolio management and in academic research. Its essential implication is that the contribution of an asset to the variance of the market portfolio - the asset’s systematic risk, or beta risk - is the proper measure of the asset’s risk and the only systematic determinant of the asset’s return.

Risk is the assessable uncertainty (Knight, 1921) in predicting the future events that are affected by external and internal factors. Sharpe (1963) had classified risks as systematic risk and unsystematic risk. The elements of systematic risk are external to the firm. The external factors are changes in economic environment, interest rate changes, inflation, etc. On the other hand, internal factors are the sources of unsystematic risk. Unsystematic risks are categorized as business risk or financial risk specific to the firm. The systematic risk related with the general market movement cannot be totally eradicated through diversification. The unsystematic risk, which is confine to a firm, can be eliminated or reduced to a considerable extent by choosing an appropriate portfolio of securities. Some of the sources of unsystematic risk are consumer preferences, worker strikes and management competitiveness. These factors are independent of the factors effecting stock market. Hence, systematic risk will influence all the securities in the market, whereas unsystematic risk is security specific.

International Research Journal of Finance and Economics - Issue 50 (2010)


Theoretically defined, beta is the systematic relationship between the return on the portfolio and the return on the market (Rosenberg and Marathe, 1979). It refers to the slope in a linear relationship fitted to data on the rate of return on an investment and the rate of return of the market (or market index). Beta is a technique of telling how volatile a stock is compared with the rest of the market. When the return on the portfolio is more than the return on the market, beta is greater than one and those portfolios are referred to as aggressive portfolios. That means, in a booming market condition, aggressive portfolio will achieve much better than the market performance. While in a bearish market environment the fall of aggressive portfolios will also be much prominent. On the other hand, when the return...

References: Allen R G, Impson C M and Karafiath I (1994), “An Empirical Investigation of Beta Stability:
Portfolios vs
Alexander, Gordon., J. Sharpe., Chervany, Norman L.(1980) “ On the Estimation and Stability
of Beta”, Journal of Financial Quantitative Analysis, Vol.XV, No.1, March, pp
Altman, Edward I., Bertrand Jacquillat and Michel Levasseur (1974) “Comparative Analysis of
Risk Measures: France and the United States” Journal of Finance, December, pp.1495-1511.
Baesel J B (1974), “On the Assessment of Risk: Some Further Considerations”, The Journal of
Finance, Vol
Bildersee, John S and Robert, Gorden S. (1981) “Beta Instability when Interest Rate Level
Changes”, Journal of Financial Quantitative Analysis, September, Vol
Blume Marshall E (1971), “On the Assessment of Risk”, Journal of Finance, Vol. 26, No. 1.
pp. 1-10
Chawla D (2001), “Testing Stability of Beta in the Indian Stock Market”, Decision, Vol
Chen, Son-Nan (1981) : Beta Non-stationarity, Portfolio Residual Risk and Diversification”,
Journal of Financial and Quantitative Analysis, March, Vol.XVI, No.1.
Chow, Gregory, C. (1960) “Tests of Equality Between Sets of Coefficients in Two Linear
Regressions,” Econometrica, vol
Fabozzi, F. J. and Francis, J. C. (1977) Stability tests for alphas and betas over bull and bear
market conditions, Journal of Finance, 32, 1093–9.
Fama E. F., French K. R., 1992, The cross-section of expected stock returns, Journal of
Finance 47, 427-465.
Fama E. F., French K. R., 1996, The CAPM is wanted, dead or alive, Journal of Finance 51,
French, D., J. Groth, and J. Kolari, 1983, Current Investor Expectations and Better Betas,
Journal of Portfolio Management, 12-17.
Gujarati, Damodar N. (2004) Basic Econometrics, Fourth Edition The McGraw−Hill
Companies, pp-273-278.
Gupta, O. p. AND Sehgal, Sanjay (1999) “Relationship between Accounting Variables and
Systematic Risk: The Indian Experience”, Indian Accounting Review, June, Vol.3, No.1.
Haddad M M (2007), “An Intertemporal Test of the Beta Stationarity: The Case of Egypt”,
Middle East Business and Economic Review, Vol
Jegadeesh N, 1992, Does market risk really explain the size effect?, Journal of Financial and
Quantitative Analysis 27, 337-351.
Jagannathan, Ravi and Zhenyu Wang, “The Conditional CAPM and the Cross-Section of
Expected Returns.” Journal of Finance 51, 3-53, (1996).
Knight F H (1921), Risk, Uncertainty and Profit, Houghton Mifflin Company: Chicago, Part 1,
Chapter 1, Paragraph 26.
Levitz Gerald D (1974), “Market Risk and the Management of Institutional Equity Portfolios”,
Financial Analysts Journal, Vol
Levine, David, M., David Stephen., Timothy C. Krehbiel and Mark L. Berenson (2006)
Statistics for Managers, Printice-Hall India, 4th Edition, pp-599-600.
Levy Robert A (1971), “Stationarity of Beta Coefficients”, Financial Analysts Journal, Vol. 27,
Lewellen, J. and Nagel, S. (2003) The conditional CAPM does not explain asset-pricing
anomalies, MIT Sloan Working Paper No
Lintner, John. 1965. "Security Prices, Risk, and Maximal Gains from Diversification." Journal
of Finance, V
International Research Journal of Finance and Economics - Issue 50 (2010)
Mossin, Jan. (1966) "Equilibrium in a Capital Asset Market." Econometrica, V. 34, No. 2: pp
Porter, R. Burr and John R. Ezell (1975) “A Note on the Predictive ability of Beta
Coefficients”, Journal of Business Research, Vol
Rosenberg and Marathe V (1979), “Tests of Capital Asset Pricing Hypotheses”, Research in
Finance, Vol
Schwert G W and Sequin P J (1990), “Heteroscedasticity in Stock Returns”, Journal of
Finance, Vol
Scott, Elton and Brown, Stewart (1980) “Biased Estimators and Unstable Betas”, The Journal
of Finance, March, Vol
Sharpe W F (1963), “A Simplified Model for Portfolio Analysis” Management Science”, Vol.
Sharpe, William F. 1964. "Capital Asset Prices: A Theory of Market Equilibrium under
Conditions of Risk." Journal of Finance, V
Siegel, A., (1995) “Measuring Systematic Risk Using Implicit Beta”, Management Science, 41,
Continue Reading

Please join StudyMode to read the full document

You May Also Find These Documents Helpful

  • market Essay
  • The Argument for Stability over Freedom Essay
  • Beta Research Paper
  • stability Essay
  • Security Market Line And Beta Basics Research Paper
  • Market Essay
  • Market Essay
  • Market Essay

Become a StudyMode Member

Sign Up - It's Free