Journal Of Financial And Strategic Decisions
Volume 8 Number 2 Summer 1995

EXPLANATION OF INDUSTRY RETURNS USING THE VARIABLE BETA MODEL AND LAGGED VARIABLE BETA MODEL Thomas M. Krueger* and Mohammad H. Rahbar*
Abstract
Beta is found to be a function of several leading economic indicators and government policy variables within the context of the Variable Beta Model which incorporates economic characteristics in the single index model in a multiplicative manner. When contemporaneous macroeconomic descriptors are replaced with reporting-period-lagged macroeconomic descriptors, in the Lagged Variable Beta Model, model explanatory power increases. Findings suggest that the lagged beta model is more likely to satisfy the ordinary least squares assumptions of serially independent error terms.

INTRODUCTION
Beta as a measure of priced risk is again under attack. Fama and French's [10,11] finding that the single index market model (SIMM) does not describe the last 50 years of average stock returns has been widely reported. Such a finding has widespread implications for corporate finance and investment management. Capital budgeting has frequently been based upon the belief that a higher return was required from projects with more volatile cash flows under the assumption that the volatile cash flows are at least partially dependent upon systematic factors. Firms which have based a portion of their appeal on the basis of their high beta and assumed higher rates of return may see an exodus of shareholders. Utility rate structures designed to give investors a return consistent with that required according to the capital asset pricing model will come into question. In a recent Journal of Financial and Strategic Decisions article, Burnie and Gunay [6] report their finding that there is a significant relationship between the returns of shares listed on the Toronto Stock