Long- and short-run components of factor betas: Implications for stock pricing

We propose a new model that estimates the long- and short-run components of the variances and covariances. The advantage of our model to the existing DCC-based models is that it uses the same form for both the variances and covariances and estimates these moments simultaneously. We apply this model to obtain long- and short-run factor betas for industry test portfolios. We find that the risk premium related to the short-run market beta is significantly positive, irrespective of the choice of test portfolio. Further, the risk premia for the short-run betas of all the risk factors are significant outside recessions.