Determinants and Estimation of Risk Premiums in Emerging Markets – Are investors compensated for taking additional risk?

Abstract

This thesis addresses whether investors will be compensated for investing in emerging and frontier markets. Return will be defined as capital gains and dividend yields on three different indexes, while risk will be determined as the standard deviation of returns. In researching risk premiums and returns in these markets, the authors found numerous shortcomings in the existing literature. Academic scholars often argue that the reason is a lack of sufficient and reliable data. We hope our research could contribute to filling this gap and enlighten investors about investments in emerging and frontier markets. The methodology is characterized as quantitative and is strengthened by existing literature. Further, we will also consider macroeconomic factors, such as inflation, political and liquidity risk, amongst others. We will use data from the MSCI indexes dating back to 2008. The data and relevant literature will be applied to answer our hypothesis: “Investors Will be Compensated for Investing in Projects in Emerging and Frontier Markets” Our research concludes that investors are compensated for the risk they take when investing in either frontier or emerging markets. Accordingly, we encourage investors to seek investment opportunities in these markets, as this can provide higher returns and lead to economic prosperity in the respective markets. Keywords: Risk Premiums, Emerging and Frontier Markets, Financial Decision-making