Another look at the CAPM in South Africa: The influence of bull and bear markets

Abstract

Several studies of the Capital Asset Pricing Model (CAPM) in South Africa find that beta cannot explain returns. However, these studies do not consider the effect of bull and bear markets, yet over the period 1995-2009, excess market returns were positive in only 98 of 180 months. The influence of market conditions on the risk-return relationship is examined internationally by evaluating the conditional risk-return relationship where risk premiums are allowed to vary in bull and bear markets, and the dual-beta CAPM, which allows for the sensitivity of an asset to the market to vary under the two economic states. In this study, the ability of these two models to explain returns on South African shares is compared to the CAPM using the Fama and MacBeth (1973) and panel data approaches. The dual-beta model is found to be more successful than either the conditional relation or CAPM, as bull- and bear-market betas differ; but the estimates of the risk premiums in this model are significant only after adjusting for market segmentation. The findings thus indicate that asset-pricing models with time-varying risk should be the focus of future asset-pricing tests.