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Empirical Analysis of Market Connectedness as a Risk Factor for Explaining Expected Stock Returns

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Portfolio Construction, Measurement, and Efficiency

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Abstract

Analyzing financial asset returns by identifying market-wide risk drivers and common firm-level characteristics that contribute to the explanation of expected asset returns has evolved into one major research field in the development of the modern asset pricing theory. The Capital Asset Pricing Model (CAPM) developed by Treynor (1962, 1961, Market value, time, and risk, “unpublished”), Sharpe (1964), Lintner (1965a,b), and Mossin (1966) initiated this strand of research, which is referred to as the single-factor model. The single-factor model identifies a single index, or a market portfolio, as the sole driver of the return of financial assets and decomposes individual asset return risk into systematic and idiosyncratic components.

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Notes

  1. 1.

    See French (2003) for details of these references.

  2. 2.

    The development of this line of study is largely grounded in the development of graph theory or network theory that are actively studied in the various disciplines such as combinatorics, computer science, physics, and (bio)-statistics.

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Acknowledgements

We thank Dr. John Guerard for constructive comments on this work. Any remaining errors are our own. The third author is supported by (while serving at) the National Science Foundation. Any opinion, findings, and conclusions or recommendations expressed in this material are those of the author(s) and do not necessarily reflect the views of the National Science Foundation.

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Authors and Affiliations

  1. Steward School of Industrial and Systems Engineering, Georgia Institute of Technology, Atlanta, GA, USA

    Shijie Deng, Min Sim & Xiaoming Huo

Authors
  1. Shijie Deng
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  2. Min Sim
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  3. Xiaoming Huo
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Correspondence to Shijie Deng .

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  1. McKinley Capital Management, Anchorage, Alaska, USA

    John B. Guerard, Jr.

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Deng, S., Sim, M., Huo, X. (2017). Empirical Analysis of Market Connectedness as a Risk Factor for Explaining Expected Stock Returns. In: Guerard, Jr., J. (eds) Portfolio Construction, Measurement, and Efficiency. Springer, Cham. https://doi.org/10.1007/978-3-319-33976-4_12

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