Why an Asset Pricing Model Fails to Explain the Cross Section of Stock Returns in the Korean Market'

53 Pages Posted: 31 Jan 2007

See all articles by Joon Chae

Joon Chae

Seoul National University

Cheol-Won Yang

Dankook University Business School

Date Written: July 23, 2007

Abstract

This paper investigates the reason that none of asset pricing models show substantial performance in the Korean market. Based upon previous literature, the main reasons for the failure are categorized into three: transaction costs, investors' irrationality, and missing risk factors. We analyze the difference between the expected return from an asset pricing model and the realized return with respect to three possible reasons for the failure of asset pricing models. By regressing the difference between the expected return and the realized return on proxies of transaction costs, investors' irrationality, and missing risk factors, we find that transaction costs and investors' irrationality are tenaciously disrupting the performance of asset pricing models. We also show that the inferior performance of an asset pricing model from transaction costs and investors' irrationality cannot be improved by just adding more factors in an asset pricing model.

Keywords: Asset pricing Model, Transaction cost, Investors irrationality, Missing risk factor

JEL Classification: G12

Suggested Citation

Chae, Joon and Yang, Cheol-Won, Why an Asset Pricing Model Fails to Explain the Cross Section of Stock Returns in the Korean Market' (July 23, 2007). Available at SSRN: https://ssrn.com/abstract=960185 or http://dx.doi.org/10.2139/ssrn.960185

Joon Chae (Contact Author)

Seoul National University ( email )

Seoul, 151-742
Korea, Republic of (South Korea)
82-2-880-6929 (Phone)
82-2-882-0547 (Fax)

Cheol-Won Yang

Dankook University Business School ( email )

152 Jukjeon-ro Suji-gu
Yongin-si Gyenggi-do
Yongin-si, Gyenggi-do 16890
Korea, Republic of (South Korea)

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