Misspecification of capital asset pricing model (CAPM): Implication for size and book-to-market effects

Recent studies have found that one-period Capital Asset Pricing Model (CAPM) fails to capture variations in average stock returns. Specifically, other factors such as firm size and book-to-market are found to be more significant in explaining average stock returns. A more general multi-period Capital Asset Pricing Model is developed in this dissertation. It is an extension of the one-period CAPM where an additional factor, earnings growth is included into the model. Empirical results have found some support for the multi-period CAPM in certain sub-period where earnings growth is significant, but fails to explain away size and book-to-market effects. The empirical findings also cast doubt on the robustness of the two effects as they suggest that they are sample-specific and period-specific.