BookReview-LahoreSchoolofEconomics.docVIP

Risk, Uncertainty and Returns at the Karachi Stock Exchange Eatzaz Ahmad and Badar uz Zaman* 1. Introduction According to the theory of risk, agents’ perceived welfare level is generally reduced when they are exposed to a more risky situation unless they are compensated for the risk. This compensation is known as risk premium. The Capital Asset Pricing Model (CAPM) proposes that the return on a risky asset over and above the return on a safe asset is a measure of risk premium. Therefore the rate of return increases with an increase in risk. This proposition has an important implication for the financial market. For example, if the excess holding period return on an asset is found to be unrelated to risk then the observed investment in the asset indicates that either the investors are risk neutral or they do not have complete information. The main equity market in Pakistan, the Karachi Stock Exchange (KSE) has become quite active during the 1990s and has been identified as one of the twenty emerging markets by the International Financial Corporation. With the surge of activity at the Karachi Stock Exchange (KSE) since the early 1990s, a number of studies have been undertaken to analyse stock price indices in Pakistan. The first major study for Pakistan Khilji (1993) examined the time series behavior of monthly stock returns on the overall general share price index and the indices of major industries for the period July 1981 to June 1992. The beta estimates for various sectors were found to be close to one, implying that portfolios of investment diversified across industries are subject to the same amount of risk as those diversified within a particular industry. Using error correcting, first order autoregressive model, the study observed that the expected monthly returns were constant and equal to the long run expected return, suggesting that the financial market in Pakistan is efficient. The study also found that the distributions of returns were positively skewed