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Is the Market Portfolio a Dynamic Factor? Evidence from Individual Stock Returns

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  • Koutmos, Gregory

Abstract

This paper uses a factor model to test whether the market portfolio is a dynamic factor in the sense that individual stock returns contain a premium linked to the conditional risk of the market portfolio. The market conditional risk is based on a decomposition of the market variance into a time-varying trend component and a transitory component. The evidence shows that the conditional market premium is rising when the permanent trend rises relative to the conditional variance. The evidence for individual stock returns supports the notion that the market portfolio is a dynamic factor. Individual stock return autocorrelations are fully explained by the time variation in the market premium. The risk premia attributed to static factors are statistically insignificant. Copyright 1997 by MIT Press.

Suggested Citation

  • Koutmos, Gregory, 1997. "Is the Market Portfolio a Dynamic Factor? Evidence from Individual Stock Returns," The Financial Review, Eastern Finance Association, vol. 32(3), pages 411-430, August.
    • Handle: RePEc:bla:finrev:v:32:y:1997:i:3:p:411-30
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    Cited by:

    1. Tai, Chu-Sheng, 2000. "Time-varying market, interest rate, and exchange rate risk premia in the US commercial bank stock returns," Journal of Multinational Financial Management, Elsevier, vol. 10(3-4), pages 397-420, December.
    2. Koutmos, Gregory & Knif, Johan & Philippatos, George C., 2008. "Modeling common volatility characteristics and dynamic risk premia in European equity markets," The Quarterly Review of Economics and Finance, Elsevier, vol. 48(3), pages 567-578, August.

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