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A tale of two states: asymmetries in the UK small, value and momentum premiums

A tale of two states: asymmetries in the UK small, value and momentum premiums

Sarwar, Golam, Mateus, Cesario and Todorovic, Natasa (2016) A tale of two states: asymmetries in the UK small, value and momentum premiums. Applied Economics, 49 (5). pp. 456-476. ISSN 0003-6846 (Print), 1466-4291 (Online) (doi:10.1080/00036846.2016.1200184)

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Abstract

This article performs comparative analysis of the asymmetries in size, value and momentum premium and their macroeconomic determinants over the UK economic cycles, using Markov switching approach. We associate Markov switching regime 1 with economic upturn and regime 2 with economic downturn. We find clear evidence of cyclical variations in the three premiums, most notable being that in the size premium, which changes from positive in expansions to negative in recessions. Macroeconomic indicators prompting such cyclicality the most are variables that proxy credit market conditions, namely the interest rates, term structure and credit spread. Overall, macro factors tend to have more significant impact on the three premiums during economic downturns. The results are robust to the choice of information variable used in modelling transition probabilities of the two-stage Markov switching model. We show that exploiting cyclicality in premiums proves particularly profitable for portfolios featuring small cap stocks in recessions at a feasible level of transaction costs.

Item Type: Article
Uncontrolled Keywords: Size; Value and momentum premiums; Two-state Markov switching model; Macroeconomic determinants; Cyclicality
Subjects: H Social Sciences > HB Economic Theory
Faculty / Department / Research Group: Faculty of Business
Faculty of Business > Department of Accounting & Finance
Last Modified: 05 Jan 2018 11:35
Selected for GREAT 2016: None
Selected for GREAT 2017: None
Selected for GREAT 2018: None
URI: http://gala.gre.ac.uk/id/eprint/16097

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