Empirical Test of Fama and French Three-Factor Model in Amman Stock Exchange

Abstract

This study aims to empirically test the ability of Fama and French (1993) Three-Factor Model (FF3F) in predicting monthly excess rates of returns of stocks traded in Amman Stock Exchange (ASE) during the period (2001 - 2010). The study uses similar methodology of FF3F. Stocks in the sample have sorted according to the size (market value) and value (book-tomarket ratio, B/M) in order to form portfolios and measuring the dependent and independent variables. To estimate the FF3F parameters, a time series regression ran using the ordinary least square method. The study documents positive value effect in ASE. Portfolios with high B/M outperformed those of low B/M. Also, the study finds small size effect, but not in a like-manner as in the U.S or other developed markets. The study finds that multi factor asset pricing model works better than the single factor model, i.e. the CAPM. Therefore, it is recommended that participants in ASE should exploit size and value effect in investment strategy and replace the CAPM by FF3F in various asset pricing applications.