Estimating the Size Premium and the Cost of Equity for Korean Listed Companies
Sekyung Oh
Kinam Park
This study empirically estimates the size premium and the cost of equity capital for companies listed on KOSPI and KOSDAQ markets using the data between 1987 and 2013. To enhance the accuracy of the estimation of size premium, sum-beta method is also used. For the estimation of the cost of equity capital, build-up method, modified CAPM with size premium, and Fama-French model excluding HML factor are compared. The main findings are as follows. First, we find that modified CAPM with size premium based on equally-weighted/one-month holding period/5 year estimation period/sum-beta provides the most adequate estimate for the cost of equity. In this case, the cost of equity capital and the size premium for Korean listed companies are estimated at 30.24% and 10.40%, respectively. Second, when the sum-beta approach is used, risk-return trade-off in size portfolios is better explained. Third, risk free rate is as important as the market portfolio in estimating the equity risk premium and the cost of equity capital. Fourth, it is important to consider the interaction between the equity risk premium and the size effect. Lastly, full-information beta approach better incorporates the industry- specific information for industries where conglomerates of big market values are included.
sum-beta,full-information beta,Equity Risk Premium,Size Premium,Cost of Equity Capital,Sum-beta,Full-information Beta