Are the Fama-French Factors Really Compensations for Distress Risk?

77 Pages Posted: 14 May 2011 Last revised: 2 Jun 2015

See all articles by Wilma de Groot

Wilma de Groot

Robeco Asset Management

Joop Huij

Erasmus University - Rotterdam School of Management; Robeco; Erasmus University Rotterdam (EUR) - Erasmus Research Institute of Management (ERIM)

Date Written: May 13, 2011

Abstract

In this paper, we revisit the question whether the Fama-French factors are manifestations of distress risk premiums. To this end, we develop new tests specifically aimed at dissecting the Fama-French factor returns from a distress risk premium. While we find that small-cap and value exposures are typically associated with distress risk, our results also indicate that distress risk is not priced and that the small-cap and value premiums are priced beyond distress risk. Moreover, the distress risk exposures of common small-cap and value factors do not have explanatory power in asset pricing tests. Our results have important implications for investors engaging in small-cap and value strategies.

Keywords: book-to-market effect, value anomaly, market efficiency, default risk, bankruptcy, credit spread, bond spread, distress risk, credit rating, size effect

JEL Classification: G11, G12, G14

Suggested Citation

de Groot, Wilma and Huij, Joop, Are the Fama-French Factors Really Compensations for Distress Risk? (May 13, 2011). Available at SSRN: https://ssrn.com/abstract=1840551 or http://dx.doi.org/10.2139/ssrn.1840551

Wilma De Groot (Contact Author)

Robeco Asset Management ( email )

Rotterdam, 3014 DA
Netherlands
+31 10 224 3107 (Phone)

Joop Huij

Erasmus University - Rotterdam School of Management ( email )

P.O. Box 1738
Rotterdam, 3000 DR
Netherlands

HOME PAGE: http://www.rsm.nl/jhuij

Robeco

Rotterdam, 3014DA
Netherlands

HOME PAGE: http://www.robeco.com/

Erasmus University Rotterdam (EUR) - Erasmus Research Institute of Management (ERIM)

P.O. Box 1738
Rotterdam, 3000 DR
Netherlands

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