Empirical insights into the distress risk anomaly: evidence from India

Pooja Singh and Anindita Chakraborty

Vilakshan - XIMB Journal of Management, 2024, vol. 22, issue 2, 269-281

Abstract: PurposeThis paper aims to examine the relationship between financial distress risk and stock returns in the Indian context.Design/methodology/approachThis is an empirical study wherein the Altman-Z score is used to identify the distressed and the non-distressed firms listed on Nifty 500. The author uses the Fama–French five-factor model to study the relationship between stock returns and distress risk. The study analyses the differences in the factor loadings among the portfolios sorted by distress. It evaluates if incorporating distress risk factors in conventional pricing models enhances the goodness of fit.FindingsThe study reported a positive relationship between the distress risk factor and stock returns in the distressed portfolios, signifying that distress risk is a systematic risk only for distressed portfolios. Furthermore, after including the financial distress risk premium, the observed fluctuations in the small-minus-big (SMB), high-minus-low (HML), RMW and CMA coefficients indicate a common association with distress risk-related information.Originality/valueThis study tests the Fama–French five factors for distress risk and examines its nature in asset pricing for emerging markets like India. The study examined the performance of the augmented Fama–French five-factor model across different sets of portfolios sorted based on distress.

Keywords: Financial distress; Distress anomaly; Asset pricing model; Stock returns (search for similar items in EconPapers)
Date: 2024
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Persistent link: https://EconPapers.repec.org/RePEc:eme:xjmpps:xjm-04-2024-0067

DOI: 10.1108/XJM-04-2024-0067

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