The Classical Approaches to Testing the Unconditional CAPM: UK Evidence

Mehnaz Roushan Laura and Nafiz Ul Fahad

International Journal of Economics and Finance, 2017, vol. 9, issue 3, 220-232

Abstract: This empirical study attempts to test the unconditional capital asset pricing model. Two-pass regression models are employed using 86 randomly chosen companies of LSE during 1997 to 2015. A two stage approaches have been applied to investigate whether excess returns can be explained by the market risk. Based on empirical results of the first pass regression, among the 86 companies 81 companies are consistent with the prediction of CAPM except five companies. However, the estimated R-square of the sample companies are very low and indicate that market excess return has low explanatory power. In the second pass regression, empirical result shows that beta coefficient is negative and statistically significant which implies that rate of return has no linear positive relationship with beta. Further, coefficient of residual variance is also observed negative and statistically significant which violates the CAPM assumption as unsystematic risks are assumed to have no impact on rate of return. In conclusion, CAPM predictions are not consistent with the findings of this study; hence CAPM is violated and does not hold.

Keywords: CAPM; two-pass regression; systematic risk; unsystematic risk; beta; London stock exchange (search for similar items in EconPapers)
Date: 2017
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Persistent link: https://EconPapers.repec.org/RePEc:ibn:ijefaa:v:9:y:2017:i:3:p:220-232

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