The Intertemporal Capital Asset Pricing Model with Time-Varying Conditional Covariances

Document Type : پژوهشی

Authors

• Asaddolah Farzinvash
• Shapur Mohammadi
• Hojjatollah Bagherzadeh

https://doi.org/10.22067/pm.v21i7.42828

Abstract

Merton (1973) derives an intertemporal capital asset pricing model (ICAPM) and that has formed the basis for much empirical research. The model predicts that an asset’s expected return depends on its dynamic conditional covariance with the market portfolio and with state variables that proxy for investment opportunities. This paper explores the intertemporal capital asset pricing model with Seemingly Unrelated Regressions (SUR) estimate and conditional covariances in Iran’s Economy. We use monthly data in 1994-2011 time periods.
In order to estimate portfolios conditional covariances, we applied different order of GARCH and then show how these covariances forecast expected returns. We also show the effect of unexpected news (change in conditional volatility) on risk- return trade off in system equations.
The result reveals that risk premium induced by change in conditional volatility. It has positive effect on risk premium induce. The result also show financial factors priced very well in Intertemporal Capital Asset Pricing Model, and Risk premium induced by conditional covariances between these factors. The change of price return in gold market also don’t affect on risk- return trade off.

Keywords

• Intertemporal Capital Asset Pricing Model
• Seemingly Unrelated Regressions (SUR)
• GARCH and Conditional Covariances

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