On the number of factors in the arbitrage pricing model

Article Abstract:

Arbitrage pricing theory, based on an assumed linear relationship between asset returns and the number of common factors, as well as the absence of arbitrage possibilities in the capital market, is tested by calculating sample covariance matrices for asset returns on securities portfolios that increase in size. These tests and an analysis of their results indicate that a single factor may dominate security pricing, but that security pricing cannot be analyzed based on single-factor examinations. In addition, for certain asset portfolios, the method of choosing the number of factors to examine is not apparent from this research. The data used in this research relate to observances of security prices for 865 corporations that have been listed for a twenty-year period.

Prices

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Arbitrage asset pricing under exchange risk

Article Abstract:

This paper extends the APT to an international setting. Specifying a linear factor return-generating model in local currency terms, we show that the usual risk-diversification rule in the APT does not yield a riskless portfolio unless currency fluctuations obey the same factor model as asset returns. We then consider an arbitrage portfolio whose exchange risk is hedged by foreign riskless bonds. Under the resulting no-arbitrage conditions, the expected returns are not on the same hyperplane, unlike the closed-economy APT, unless they are adjusted by the cost of exchange risk hedging. (Reprinted by permission of the publisher.)

Research, Portfolio management, Foreign exchange

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A model of international asset pricing with a constraint on the foreign equity ownership

Article Abstract:

A model for pricing assets considers valuation in a hypothetical two-country world that limits domestic investors to a set percentage of shares owned per corporation invested in. Asset prices are demonstrated to be a function of the prices on the foreign securities markets, the premiums offered by domestic investors and the discount required by foreign investors. Premiums within the model are a multiple of the discounts required, and the multiples reflect the ratio of risk aversion in the aggregate for both domestic and foreign investors.

International aspects, Capital assets pricing model, Capital asset pricing model

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