Robust Tests of the Lower Partial Moment Asset Pricing Model in Emerging Markets

This paper tests and compares the CAPM of Black (1972) and the Mean Lower Partial Moment (MLPM) Capital Asset Pricing Model of Bawa and Lindenberg (1977) and Harlow and Rao (1989) in the context of emerging markets. It is well known that returns in emerging markets are non-normal and have greater predictability than in the developed markets. Considering these stylized facts the paper extends the Harlow-Rao Likelihood Ratio test of a Black (1972) type version of the MLPM model and develops a Wald test that allow for non-normality of the returns. The paper also formulates a GMM test that is valid under the conditions of heteroskedasticity and serial dependence. For the test of the CAPM hypothesis against the MLPM alternative the paper remedies an econometric problem of testing in presence of a nuisance parameter. In the empirical application on an emerging market data it is shown that the conclusion on the validity of the asset pricing model are reversed when the correct p-values obtained through the bootstrap test are employed. We demonstrate that the empirical results appear to support both the Black version of the CAPM and the MLPM model when performed against unspecified alternative but the CAPM is supported when an MLPM alternative is specified.