Application of asset pricing models: evidence from Saudi exchange

Abstract

The Saudi Arabia Stock Exchange (Tadawul) is one of the biggest emerging Stock Exchanges in the Middle East region. Therefore, this research aims to apply Fama and French (2015) 5-factor model on Tadawul, and compares it with the Fama and French 3-factor model and CAPM to check the applicability of the models in Tadawul and the identity of the factors that can affect stock returns. Furthermore, the Generalized Method of Moments (GMM) regression has been implemented to examine the impact between the variables in the models. Empirically, the results show that Fama and French (2015) 5-factor model is the most consistent model in comparison to the other two models in terms of explaining the cross-section of average stock returns in Tadawul. However, it is not the best according to the intercepts results of all the regressions in 2x3, 2x2, or 2x2x2x2 sorts. Besides, Fama and French (2015) 5-factor model has the highest explanatory power in most of the portfolios based on the adjusted R2 regardless of the sort (2x3, 2x2, or 2x2x2x2). Finally, the results conclude that Fama and French (2015) 5-factor model can be an applicable model in Tadawul but only market and size can affect the stock returns, while the value, profitability, and investment cannot. Accordingly, the author recommends that, as a continuation of this research, further research can be done, which investigates a model with additional factors like momentum and illiquidity.

Does downside beta matter in asset pricing? Evidence from the Egyptian Stock Exchange

“…Their finding implied that CAPM is the least effective model as it does not explain the variations in stock returns. Meanwhile when comparing FF3F model and FF5F; both models provide incomplete descriptions of the returns, nevertheless, FF5F was found to be superior to FF3F (Taib & Benfeddoul, 2023) (Ragab, Abdou, & Sakr, 2020) (Salameh, 2020) (Alrabadi & Alrabadi, 2018) .These results could be mainly attributed to the fact that emerging markets have different features than developed markets. Thin trading, illiquidity, a small number of listed firms, a small number of investment research organizations, and less corporate governance enforcement are characteristics of emerging markets which lead to market inefficiency.…”