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An Empirical Study of the Risk-Return Hypothesis Using Common Stock Portfolios of Life Insurance Companies

Published online by Cambridge University Press:  19 October 2009

James Gentry  and
John Pike
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Extract

The relationship between return on assets and their riskiness is one of the liveliest topics in financial literature. In his 1952 landmark article, Markowitz developed a mathematical model that captured this key financial concept. defined risk as the variance of the rate of return of a portfolio. Later, Sharpe hypothesized a positive linear relationship between expected rate of return on an asset and the risk premium associated with that asset. Subsequently, Sharpe tested this hypothesis empirically and found support for his theory. Although portfolio theory specifies the two parameters of this model as ex ante return and risk, Sharpe used ex post data for testing the risk-return relationship. designated the ex post mean rate of return obtained on an an asset as a proxy for expected return and the standard deviation of ex post annual rates of return as a surrogate for risk.

Type
Research Article
Information
Journal of Financial and Quantitative Analysis , Volume 5 , Issue 2 , June 1970 , pp. 179 - 185
Copyright
Copyright © School of Business Administration, University of Washington 1970

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References

1 See for example: Conrad, Gordon R. and Plotkin, Irving H., “Risk/Return: U. S. Industry Pattern,” Harvard Business Review, XXXXVI (March–April 1968), pp. 90–111Google Scholar; Fama, Eugene F., “Risk, Return and Equilibrium: Some Clarifying Comments,” The Journal of Finance, XXIII (March 1968),. pp. 29–40CrossRefGoogle Scholar; Lintner, John, “Security Prices, Risk, and Maximal Gains from Diversification,” The Journal of Finance, XX (December 1965), pp. 587–615Google Scholar; Markowitz, Harry, “Portfolio Selection,” The Journal of Finance, XII (March 1952), pp. 77–91Google Scholar; Sharpe, William F., “Capital Asset Prices: A Theory of Market Equilibrium Under Conditions of Risk,” The Journal of Finance, XIX (September 1964), pp. 425–449Google Scholar; Sharpe, William F., “Risk Aversion in the Stock Market: Some Empirical Evidence,” The Journal of Finance, XX (September 1965), pp. 416–422CrossRefGoogle Scholar; Sharpe, William F., “Security Prices, Risk and Maximal Gains from Diversification: Reply,” The Journal of Finance, XXI (December 1966), pp. 743–744CrossRefGoogle Scholar;Sharpe, William F., “Reply,” Journal of Business, 41 (April 1968), pp. 235–236CrossRefGoogle Scholar; West, Richard R., “Mutual Fund Performance and the Theory of Capital Asset Pricing: Some Comments,” Journal of Business, 41 (April 1968), pp. 230–234.CrossRefGoogle Scholar

2 Markowitz, “Portfolio Selection.”

3 Sharpe, The Journal of Finance, XIX.

4 Sharpe, “Risk Aversion in the Stock Market.”

5 Ibid., p. 422.

6 Fisher, Lawrence, “An Algorithm for Finding Exact Rates of Return,” Journal of Business, 39, No. 1, Part II (January 1966), pp. 111–118.CrossRefGoogle Scholar

7 Sharpe, “Risk Aversion in the Stock Market.”

8 Croxton, Frederick E. and Cowden, Dudley J., Practical Business Statistics (Englewood Cliffs, N.J.: Prentice-Hall, Inc., 1964) pp. 259–260.Google Scholar

9 Ibid., pp. 267–268. Eugene F. Fama, “The Behavior of Stock Prices,” The Journal of Business, XXXVIII (January 1965), pp. 47–60.

10 Ibid.

11 Ibid., pp. 417–418.