A risk-based explanation for size, value and momentum factors and conditional co-skewness in asset pricing

Abstract

The single factor Capital asset pricing model (CAPM) of Sharpe (1964) and Lintner (1965) is one of the first and most important models in asset pricing. According to the CAPM, all investors choose the market portfolio from all combinations of risky assets and the excess return of each risky asset is determined by its beta multiplied with the market premium. One of the main assumptions of CAPM is the normality of returns. However, there is much evidence that returns are skewed and leptokurtic rejecting the normality assumption of CAPM. Theoretical attacks in CAPM’s unrealistic assumptions, poor empirical performance of the CAPM in explaining the cross-sectional variation of stock returns and identification of other patterns in stock returns has motivated researchers to investigate other asset pricing models.