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Time-Varying Beta and the Value Premium

Published online by Cambridge University Press:  29 June 2017

Hui Guo ,
Chaojiang Wu  and
Yan Yu
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Abstract

We model conditional market beta and alpha as flexible functions of state variables identified via a formal variable-selection procedure. In the post-1963 sample, the beta of the value premium comoves strongly with unemployment, inflation, and the price–earnings ratio in a countercyclical manner. We also uncover a novel nonlinear dependence of alpha on business conditions: It falls sharply and even becomes negative during severe economic downturns but is positive and flat otherwise. The conditional capital asset pricing model (CAPM) performs better than the unconditional CAPM, but this does not fully explain the value premium. Our findings are consistent with a conditional CAPM with rare disasters.

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Type
Research Article
Information
Journal of Financial and Quantitative Analysis , Volume 52 , Issue 4 , August 2017 , pp. 1551 - 1576
Copyright
Copyright © Michael G. Foster School of Business, University of Washington 2017 

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Footnotes

1

We thank an anonymous referee, Hendrik Bessembinder (the editor), and Stefan Nagel for helpful comments. Guo acknowledges financial support from the Key Projects of the National Social Science Foundation of China (No. 16ZDA039).

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