The South African equity risk premium, country risk and macroeconomic factors
Date
2014-10-13
Authors
Vlachos, Hermina Gina
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Abstract
The equity risk premium is a central parameter in the investment decision
making process. As both companies and investors are becoming increasingly
entangled in the global economy, they are confronted with the influence of
globalisation on the equity risk premium. This research study estimates the
South African equity risk premium using the methodology proposed by Fama
and French (2002) and further separates the equity risk premium into a global
risk premium and a South African country risk premium. The study estimates
monthly equity risk, global risk and country risk premiums over the 1980 to 2013
time horizon.
The study further investigates the relationship between the country risk
premium and macroeconomic fundamentals. This investigation is framed within
the confines of the Arbitrage Pricing Theory (APT) framework. The relationship
between the country risk premium and the macroeconomic environment is of
particular interest to investors, as an understanding of this relationship holds
potential risk mitigating and profit yielding opportunities.
Multivariate Cointegration techniques and a Vector Error Correction model
(VECM) are used to investigate the relationship between the country risk
premium and the South African macroeconomic environment. The results of
this study provide evidence of a significant long-run relationship between the
South African country risk premium and the South African macroeconomic
environment. Further, the model estimated by this study can be used to
estimate future country risk premiums. Therefore, investors can use the
estimated model in the investment decision making process to improve profits in
the long-term.
Description
Keywords
Johannesburg Stock Exchange , Investments -- South Africa