Factor Models: Announcements, Surprises, and Expected Returns презентация

Unsystematic
11.3 Systematic Risk and Betas
11.4 Portfolios and Factor Models
11.5 Betas and Expected Returns
11.6 The Capital Asset Pricing Model and the Arbitrage Pricing Theory
11.7 Parametric Approaches to Asset Pricing
11.8 Summary and Conclusions

security consists of two parts.
1) the expected or normal return: the return that shareholders in the market predict or expect
2) the unexpected or risky return: the portion that comes from information that will be revealed .
Examples of relevant information:
Statistics Canada figures (e.g., GNP)
A sudden drop in interest rates
News that the company’s sales figures are higher than expected

the return on a stock in the coming month is:

broken down into two parts, the anticipated or expected part and the surprise or innovation:
Announcement = Expected part + Surprise.
The expected part of any announcement is part of the information the market uses to form the expectation, R of the return on the stock.
The surprise is the news that influences the unanticipated return on the stock, U.

affects a large number of assets, each to a greater or lesser degree.
An unsystematic risk is a risk that specifically affects a single asset or small group of assets.
Unsystematic risk can be diversified away.
Examples of systematic risk include uncertainty about general economic conditions, such as GNP, interest rates, or inflation.
On the other hand, announcements specific to a company, such as a gold mining company striking gold, are examples of unsystematic risk.

U

We can break down the risk, U, of holding a stock into two components: systematic risk and unsystematic risk:

risk.
m influences all assets in the market to some extent.
Is specific to the company and unrelated to the specific risk of most other companies.

response of the stock’s return to a systematic risk.
In the CAPM, β measured the responsiveness of a security’s return to a specific risk factor, the return on the market portfolio.

We shall now consider many types of systematic risk.

systematic risks on which we want to focus:
Inflation
GDP growth
The dollar-pound spot exchange rate, S($,£)
Our model is:

= -2.30
βGDP = 1.50
βS = 0.50.
Finally, the firm was able to attract a “superstar” CEO and this unanticipated development contributes 1% to the return.

in the systematic factors.
If it was the case that the inflation rate was expected to be 3%, but in fact was 8% during the time period, then
FI = Surprise in the inflation rate
= actual – expected
= 8% - 3%
= 5%

rate of GDP growth was expected to be 4%, but in fact was 1%, then
FGDP = Surprise in the rate of GDP growth
= actual – expected
= 1% - 4%
= -3%

spot exchange rate, S($,£), was expected to increase by 10%, but in fact remained stable during the time period, then
FS = Surprise in the exchange rate
= actual – expected
= 0% - 10%
= -10%

the expected return on the stock was 8%, then

portfolios of stocks when each of the stocks follows a one-factor model.
We will create portfolios from a list of N stocks and will capture the systematic risk with a 1-factor model.
The ith stock in the list have returns:

return

The return on the factor F

If we assume that there is no unsystematic risk, then εi = 0

return

The return on the factor F

If we assume that there is no unsystematic risk, then εi = 0

return

The return on the factor F

Different securities will have different betas

average of the returns on the individual assets in the portfolio:

sets of parameters:

In a large portfolio, the third row of this equation disappears as the unsystematic risk is diversified away.

by two sets of parameters:
The weighed average of expected returns.
The weighted average of the betas times the factor F.

In a large portfolio, the only source of uncertainty is the portfolio’s sensitivity to the factor.

the sum of the expected return plus the sensitivity of the portfolio to the factor.

well-diversified portfolios is all systematic, because unsystematic risk is diversified away.
If shareholders are ignoring unsystematic risk, only the systematic risk of a stock can be related to its expected return.

applies to well diversified portfolios and not necessarily to individual stocks.
With APT it is possible for some individual stocks to be mispriced---not lie on the SML.
APT is more general in that it gets to an expected return and beta relationship without the assumption of the market portfolio.
APT can be extended to multifactor models.

of growth in industrial production
the changes in the slope of the term structure of interest rates
the default risk premium for bonds
inflation
The value-weighted return on the market portfolio (TSE 300)

risk-based models. There are alternatives.
Empirical methods are based less on theory and more on looking for some regularities in the historical record.
Be aware that correlation does not imply causality.
Related to empirical methods is the practice of classifying portfolios by style e.g.,
Value portfolio
Growth portfolio

according to factor models such as:

As securities are added to the portfolio, the unsystematic risks of the individual securities offset each other. A fully diversified portfolio has no unsystematic risk.
The CAPM can be viewed as a special case of the APT.
Empirical models try to capture the relations between returns and stock attributes that can be measured directly from the data without appeal to theory.