In my M.Sc. (Econ.) thesis, I study the pricing process behind country equity indexes. I use a simple global single-factor capital asset pricing model, testing one additional factor at a time. I find that a strategy that buys equity indexes in the lowest quartile of market capitalization to GDP ratio and sells equity indexes in the highest quartile of market capitalization to GDP ratio can produce systematic excess returns. I argue that this finding is supportive of a mean reversal phenomenon in the ratio - and does not reflect a compensation requirement for higher risk. Additionally, I find that investors do not require a country risk premium for investing in a given country instead of investing a global market index. I argue, that this happens because of implicit barriers to international investment and because index constituents can provide investors international diversification benefits.
My thesis proceeds as follows. I begin with a comprehensive literature review, which covers the seminal studies in asset pricing and international asset pricing literature. I then proceed by explaining my theoretical framework and my empirical methodology. A reader wishing to familiarize herself with my empirical data is provided extensive descriptive statistics and metrics. I finish by presenting my results and putting them in a theoretical context.
