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Multifactor Asset Pricing Model Incorporating Coskewness and Cokurtosis: the Evidence from Asian Mutual Funds

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Multifactor Asset Pricing Model Incorporating Coskewness and Cokurtosis: the Evidence from Asian Mutual Funds MULTIFACTOR ASSET PRICING MODEL INCORPORATING COSKEWNESS AND COKURTOSIS: THE EVIDENCE FROM ASIAN MUTUAL FUNDS BY MR. NATHEE NAKTNASUKANJN A DISSERTATION SUBMITTED IN PARTIAL FULFILLMENT OF THE REQUIREMENTS FOR THE DEGREE OF DOCTOR OF BUSINESS ADMINISTRATION (D.B.A.) MAJOR FINANCE THE JOINT DOCTORAL PROGRAM IN BUSINESS ADMINISTRATION (JDBA) FACULTY OF COMMERCE AND ACCOUNTANCY THAMMASAT UNIVERSITY ACADEMIC YEAR 2014 COPYRIGHT OF THAMMASAT UNIVERSITY MULTIFACTOR ASSET PRICING MODEL INCORPORATING COSKEWNESS AND COKURTOSIS: THE EVIDENCE FROM ASIAN MUTUAL FUNDS BY MR. NATHEE NAKTNASUKANJN A DISSERTATION SUBMITTED IN PARTIAL FULFILLMENT OF THE REQUIREMENTS FOR THE DEGREE OF DOCTOR OF BUSINESS ADMINISTRATION (D.B.A.) MAJOR FINANCE THE JOINT DOCTORAL PROGRAM IN BUSINESS ADMINISTRATION (JDBA) FACULTY OF COMMERCE AND ACCOUNTANCY THAMMASAT UNIVERSITY ACADEMIC YEAR 2014 COPYRIGHT OF THAMMASAT UNIVERSITY (1) Dissertation Title MULTIFACTOR ASSET PRICING MODEL INCORPORATING COSKEWNESS AND COKURTOSIS: THE EVIDENCE FROM ASIAN MUTUAL FUNDS Author Mr. Nathee Naktnasukanjn Degree Doctor of Business Administration (D.B.A.) Major Field/Faculty/University Major Finance Faculty of Commerce and Accountancy Thammasat University Dissertation Advisor Prof. Pornchai Chunhachinda, Ph.D. Dissertation Co-Advisor Chaiyuth Padungsaksawasdi, Ph.D. Academic Years 2014 ABSTRACT This dissertation adds cokurtosis risk factor as a new factor into Moreno and Rodriguez (2009) five-factor model to be six-factor model to evaluate the equity mutual fund performance both unconditionally and conditionally, and between up and down market of three selected countries in Asia—China, Singapore, and Thailand as representatives of fast growing Asian countries. To my knowledge, this is the first research to incorporate both coskewness and cokurtosis risk factors into Carhart (1997) four-factor model, to become a six-factor model, to explain the equity mutual fund returns. Fund-by-fund investigation is also performed in order to examine whether there is any individual equity mutual fund that can outperform, or beat the market, by using first-moment, second-moment, lower partial-moment, and higher- moment measures. Keywords: Multifactor, Higher Moment, Asset Pricing, Coskewness, Cokurtosis, Mutual Fund (2) ACKNOWLEDGEMENTS I thank my dissertation advisor, Ajahn Professor Dr. Pornchai Chunhachinda, and my dissertation co-advisor, Ajahn Dr. Chaiyuth Padungsaksawasdi, for their advices and recommendations on my dissertation. I thank Ajahn Associate Professor Dr. Tatre Jantarakolica for his kind help on Stata programming. I thank my dissertation committee chair, Ajahn Associate Professor Dr. Kulpatra Sirodom, and members, Ajahn Associate Professor Dr. Kamphol Panyagometh and Ajahn Assistant Professor Nattawut Jenwittayaroj, for their comments on my dissertation. I thank JDBA officers for their assistance on my dissertation defending process. And I thank my spouse and children on their understanding and patience during the development of my dissertation. Mr. Nathee Naktnasukanjn (3) TABLE OF CONTENTS Page ABSTRACT (1) ACKNOWLEDGEMENTS (2) LIST OF TABLES (6) CHAPTER 1 INTRODUCTION 1 1.1 Motivation 1 1.2 Background 3 1.3 Objective and Contribution 6 1.4 Structure of Dissertation 7 CHAPTER 2 SIX-FACTOR MODEL IN EXPLAINING MUTUAL FUND PORTFOLIO RETURN 9 2.1 Introduction 9 2.2 Review of Literature 11 2.3 Theoretical Background 14 2.3.1 Utility Function 14 2.3.2 The Multifactor Model 16 2.3.3 The Four-Factor plus Higher-Moment CAPM Risk Factor Model 19 2.4 Data and Methodology 21 2.5 Findings and Results 24 2.5.1 Summary Statistics 24 2.5.2 Performance and characteristics of decile portfolio constructed on the basis of Coskewness and Cokurtosis 25 2.5.3 Alphas and Betas of Coskewness and Cokurtosis portfolio 27 (4) 2.5.4 Measure of Mutual Funds Performance using Higher Moment six-factor model 30 2.6 Conclusion 33 CHAPTER 3 SIX-FACTOR MODEL IN EXPLAINING MUTUAL FUND PORTFOLIO RETURN IN DIFFERENT MARKET CONDITIONS 59 3.1 Introduction 59 3.2 Review of Literature 62 3.3 Data and Methodology 66 3.3.1 Up- and down-market condition 67 3.3.2 Conditional performance evaluation 68 3.3.3 Bootstrap evaluation of fund alphas 69 3.4 Findings and Results 70 3.4.1 Measure of Mutual Funds performance by different market conditions 70 3.4.2 Measure of Mutual Funds performance by conditional model and bootstrap technique 74 3.5 Conclusion 75 CHAPTER 4 INDIVIDUAL MUTUAL FUND PERFORMANCE MEASUREMENT USING HIGHER MOMENT APPROACH 97 4.1 Introduction 97 4.2 Review of Literature 98 4.3 Data and Methodology 101 4.3.1 First-Moment Measure 101 4.3.2 Second-Moment Measure 102 4.3.3 Lower-Partial-Moment Measures 103 4.3.3.1 Reward-to-Target Absolute Semi-Deviation Ratio 103 4.3.3.2 Downside Deviation-based Sharpe Ratio 104 (5) 4.3.4 Higher-Moment Measures 104 4.3.4.1 Adjusted for Skewness Return-to-Risk Ratio 104 4.3.4.2 Omega 106 4.4 Findings and Results 108 4.4.1 First-Moment Measure 108 4.4.2 Second-Moment Measure 109 4.4.3 Lower-Partial-Moment Measures 111 4.4.4 Higher-Moment Measures 112 4.5 Conclusion 115 REFERENCES 131 BIOGRAPHY 139 (6) LIST OF TABLES Tables Page 2.1 Summary Statistics of Risk Factors 35 2.2 Cross Correlations of Risk Factors 37 2.3 Performance and Characteristics of Decile Portfolios Constructed on the Basis of Coskewness 39 2.4 Performance and Characteristics of Decile Portfolios Constructed on the Basis of Cokurtosis 41 2.5 Alphas and Betas of Equally-Weighted Coskewness Portfolios using CAPM, Fama-French three-factor model, and Carhart four-factor model 43 2.6 Alphas and Betas of Equally-Weighted Cokurtosis Portfolios using CAPM, Fama-French three-factor model, and Carhart four-factor model 47 2.7 Summary Statistics of Mutual Funds 51 2.8 Measures of Mutual Fund Performance using CAPM, Carhart four-factor model, and Higher moment (with Coskewness and Cokurtosis Risk Factors) six-factor model 52 3.1 Summary Statistics of Mutual Funds by Positive and Negative Excess Market Return 71 3.2 Measures of Mutual Fund Performance using higher moment (with Coskewness and Cokurtosis Risk Factors) six-factor model comparing positive and negative return 81 3.3 Measures of Mutual Fund Performance using higher moment (with Coskewness and Cokurtosis Risk Factors) six-factor model comparing different excess market return periods of China 88 3.4 Measures of Performance using Conditional and Unconditional Six-Factor Model 92 3.5 Measures of Performance using Unconditional Six-Factor Model and Bootstrap 95 (7) 4.1 Descriptive Statistics of Total Return of Equity Mutual Funds and Stock Market Indexes 117 4.2 Test of Difference between Total Return of Equity Mutual Funds and Stock Market Indexes 118 4.3 Sharpe Ratio of Average of Monthly Total Return of Stock Market Indexes and Equity Mutual Funds 119 4.4 Test of Difference between Sharpe Ratio of Equity Mutual Funds and Stock Market Indexes 120 4.5 The Reward-to-Target Absolute Semi-Deviation (RTASD) Ratio Equity Mutual Funds and Stock Market Indexes 121 4.6 The Downside Deviation-Based Sharpe Ratio (DDSR) of Equity Mutual Funds and Stock Market Indexes 122 4.7 Test of Difference between Reward-to-Target Absolute Semi-Deviation (RTASD) Ratio of Mutual Funds and Stock Market Indexes 123 4.8 Test of Difference between Downside Deviation-Based Sharpe Ratio (DDSR) of Equity Mutual Funds and Stock Market Indexes 124 4.9 Skewness and Kurtosis Test of Mutual Funds 125 4.10 The Adjusted-for-Skewness Sharpe Ratio (ASSR) of Equity Mutual Funds and Stock Market Indexes 126 4.11 Test of Difference between Adjusted-for-Skewness Sharpe Ratio (ASSR) of Equity Mutual Funds and Stock Market Indexes 127 4.12 Omega (Index) Ratio of Equity Mutual Funds and Stock Market Indexes 128 4.13 Test of Difference between Modified Omega (Index) of Equity Mutual Funds 129 4.14 Comparison of All Measures of the Mutual Funds 130 1 CHAPTER 1 INTRODUCTION 1.1 Motivation Capital Asset Pricing Model (CAPM) for pricing securities has been successful in communicating ideas related to the link between risk and return, and is still widely used both in academic research and professional analyses. However, CAPM assumes that returns are normally distributed and the variance of returns is an adequate measure of risk, while in fact the return distributions of portfolios are not symmetrical and thus the higher moment should also be incorporated into portfolio performance measurement (Chunhachinda et al., 1994, 1997; Prakash et al., 2003). Classical CAPM is extended to incorporate the effect of skewness and kurtosis on the asset valuation and it is found that systematic skewness (coskewness) and systematic kurtosis (cokurtosis) are important. Moreno and Rodriguez (2009) add coskewness risk factor (CSK) as a new factor into Carhart (1997) four-factor model, and become five-factor model. Coskewness is the component of an asset’s skewness related to the market portfolio’s skewness. An asset with negative coskewness is an asset that adds negative skewness to the portfolio and thus increasing the probability of obtaining undesirable extreme values in the left tail of the distribution of the portfolio’s return, when incorporated into a portfolio. The coskewness risk factor is constructed in the same way that the Fama and French (1993) risk factors are constructed. This dissertation continues from their research paper, adding cokurtosis risk factor as a new factor into Moreno and Rodriguez (2009) five-factor model, and become six-factor model. Cokurtosis is the component of an asset’s kurtosis related to the market portfolio’s kurtosis. An asset with high cokurtosis is an asset that adds large kurtosis to the portfolio and thus increasing the probability of obtaining extreme values of the portfolio’s return, when incorporated into a portfolio. To my knowledge, this is the first research to incorporate both coskewness and cokurtosis risk factors 2 into Carhart (1997) four-factor model, to become a six-factor model, to explain the equity mutual fund returns.
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