Price of Risk Fluctuations and the Size Premium
Discussion Papers on Business and Economics, University of Southern Denmark, 3/2016
50 Pages Posted: 18 Jun 2016 Last revised: 2 Feb 2020
Date Written: January 31, 2020
This paper empirically describes how the risk premiums of size portfolios vary with macro-economic fluctuations in the price of risk at the portfolio formation dates, thereby explaining the lack of robustness involving the unconditional size premium: Only portfolios formed in "bad" states - with price of risk among the largest 30% - earn significantly positive premiums (7.5% per year on average). Inevitably, the subsample in which the premium is absent dominates and easily distorts the unconditional evidence that supports the size premium literature. Conditional tests contradict the (unconditional) conclusions that the size premium is consistent with the ICAPM or non-existent after 1981.
Keywords: Size factor, conditional tests, subsamples, CAPM, Fama and French
JEL Classification: G11, G12, G14
Suggested Citation: Suggested Citation