A Factor Model for the Cross-Section of Country Equity Risk Premia

33 Pages Posted: 6 Oct 2022

See all articles by Christian Fieberg

Christian Fieberg

City University of Applied Sciences

Gerrit Liedtke

University of Bremen

Adam Zaremba

Montpellier Business School; Poznan University of Economics and Business; University of Cape Town

Date Written: September 24, 2022

Abstract

We apply instrumented principal component analysis (IPCA) to obtain a statistical factor model for the cross-section of country equity risk premia. Using data from 73 equity markets, we condition the factor loadings on a comprehensive set of accounting and market characteristics from the finance literature. A four-factor IPCA model without an anomaly intercept best captures the international variation in country returns, outperforming prominent factor models. Among the global “factor zoo,” a handful of features—including sovereign risk, momentum, size, and valuation—suffice to explain return differences across markets. A country allocation based on IPCA generates substantial alphas and subsumes popular factor strategies.

Keywords: instrumental principal component analysis, IPCA, international asset pricing, factor model, return predictability, equity anomalies, country equity risk premium, the cross-section of stock returns

JEL Classification: C38, G10, G11, G12, G15

Suggested Citation

Fieberg, Christian and Liedtke, Gerrit and Zaremba, Adam, A Factor Model for the Cross-Section of Country Equity Risk Premia (September 24, 2022). Available at SSRN: https://ssrn.com/abstract=4228736

Christian Fieberg

City University of Applied Sciences ( email )

Werderstr. 73
Bremen, DE Bremen 28199
Germany

Gerrit Liedtke

University of Bremen ( email )

Adam Zaremba (Contact Author)

Montpellier Business School ( email )

2300 Avenue des Moulins
Montpellier, Occitanie 34000
France

HOME PAGE: http://sites.google.com/view/adamzaremba

Poznan University of Economics and Business ( email )

al. Niepodległości 10
Poznań, 61-875
Poland

University of Cape Town

Cape Town
South Africa

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