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Rational of the Study

Rational of the Study

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Published by Usman Shah

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Published by: Usman Shah on Sep 20, 2012
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10/10/2012

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Rational of the study
The future is uncertain. Investors do not know withcertainty whether the economy will be growing rapidly or bein recession. As such, they do not know what rate of returntheir investments will yield. Therefore, they base theirdecisions on their expectations concerning the future.Fama and French in 1992 tested stock returns over the 1963to 1990 period; they found that the size and market to bookvalue variables are powerful predictors of average stockreturns. The risk and return have great impact on stockprices. This effect can be either an increase or decreasein stock prices. This impact may be the systematic riskfactors or due to the unsystematic risk factors. The riskfactor can be minimized but it cannot be eliminatedentirely. Risk and return are interlinked, higher the riskdepicts higher the return and leads to an increase in stockprices. Lower the risk depicts lower the return and leadsto a decrease in stock prices.Hussain (1997) examined relationship between returns andstock market volatility for Pakistan equity market usingdaily data.Ahmed and Rosser (1995) describes that volatile marketprices also reflect optimism regarding future economicdevelopment. Stock market volatility tends to bepersistent; that is periods of high volatility as well aslow volatility tend to last for months.
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Fama and French (1998) describes that high beta describesthat a firm is more risky. The measure of non-diversifiablerisk is the beta coefficient. Measures the volatility of anasset return compared to volatility of overall marketreturns. The higher the potential return, the higher thepotential loss may be and that negative returns arepossible for all investment types.
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Problem Statement
Literature describes that there is strong relation betweenrisk and return, and they have great impact on stockreturn, some times this impact is positive and some timesit is negative. This study investigates how risk affectsthe stock prices and its relationship with the stockreturns. This study also evaluates how volatility affectsthe stock returns. 
Scope and Limitation
The study is comprises upon the Karachi stock exchange(KSE) no other stock exchange is included in this study.The scope of this study is limited to last five yearsmonthly stock prices of fifteen companies those haveatleast 1 percent of market capitalization and also theyhave regular 60 months trading. This study covers theeffect of risk on the stock prices and also relationship ofrisk and return between these stocks. This study will beapplicable and helpful for other researches related to thistopic.
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