Calculating the equity cost of capital using the APT: the impact of the ERM |
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| Authors: | Antonios Antoniou Ian Garrett Richard Priestley |
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| Institution: | aDepartment of Economics and Finance, Centre for Empirical Research in Finance, Brunel University, Uxbridge UB8 3PH, UK;bManchester School of Accounting and Finance, University of Manchester, Oxford Road, Manchester M13 9PL, UK;cDepartment of Business Economics, Norwegian School of Management, Elias Smiths vei 15, PO Box 580, N1301 Sandvika, Norway |
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| Abstract: | One of the expected benefits of membership of the Exchange Rate Mechanism (ERM) was a reduction in risk which should lead to a lower cost of capital and foster investment and growth. Using the APT, we investigate the behavior of the equity market risk premium for the London Stock Exchange prior to and during sterling's membership of the ERM. We find that prior to and during the first year of membership the equity market risk premium fell quite dramatically. However, when conflict between domestic and ERM policy requirements arose at the turn of 1991, the equity risk premium increased and continued to do so until sterling's exit, partially wiping out the benefits of membership of the ERM. |
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| Keywords: | JEL classification: G12 G15 F31 |
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