A panel-data analysis of the explanatory power of factor premiums on the Johannesburg Stock Exchange (JSE)

ABSTRACT

A large portion of South African asset pricing literature considers the identification of investment styles present on the Johannesburg Stock Exchange (JSE). Unfortunately, the identification of an ‘investment style’ does not necessarily entail that the said style is an ‘explanatory factor’ where ‘explanatory’ implies that the said factor is able independently to explain a portion of the cross-sectional variation in share returns. This study considers a number of popularised investment styles which have been documented in local and international literature, namely size, value, momentum, low beta, currency risk, low volatility and liquidity. As opposed to applying portfolio sorts based on styles and estimating factor premiums via Fama-Macbeth regressions, this study applies panel data methods on a share-by-share basis. The benefit of such an approach is the ability to test numerous styles in a multivariate parametric framework despite a limited investable universe of shares. The results of the study indicate that size, value, momentum and low-market beta are priced factors that explain the average cross-sectional variation in share returns on the JSE.

KEYWORDS:

• Asset pricing
• investment styles
• cross-sectional variation
• cross-sectional regression

ORCID

Christo Auret http://orcid.org/0000-0002-7357-852X

Notes

1 Liquidity adjusted beta entails adjusting betas for non-synchronous trading using the number of zero-daily trades achieved over the prior trading year.

2 It should be further noted that the usage of a share-by-share aggregation should result in relatively low R² as one would anticipate a high level of noise in time-series and cross-sectional returns.