Application of Fama-French three factor model in emerging Markets

Abstract

There are many models which try to explain the performance of the stock of a company based on different factors. Capital Asset Pricing Model is the one that is traditionally employed to explain the returns of a stock. However, the model has not been able there has been significant improvements to the Capital Asset Pricing Model that claims to better explain the performance of the stock of a company. Fama-French three factor model is perhaps the most renowned of these models which predicts the return on a stock based on the company’s market capitalization and book-to-market ratio, in addition to the market risk premium. However, in emerging markets such as India, the three factors might not adequately explain the returns. There is a need to study how much of a stock’s returns can be explained by the existing Fama-French model.