Bottom-up macro exposures and relation to expected returns
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This thesis will review the relationship between macroeconomic risk and expected returns based
on the previous asset pricing literature. Classical research has been based largely on aggregated
macroeconomic variables and so-called top-down approaches, which cannot always identify
differences between companies on the macroeconomic exposures.
In the central part of the thesis are bottom-up exposures, where macroeconomic risk is
examined through firm-level qualities, factor-based portfolios, and return-based measures. The
reviewed literature suggests that firms that are more sensitive to unfavorable macroeconomic
circumstances gain higher expected returns on average as compensation for bearing systematic
risk. In addition, macroeconomic exposures fluctuate significantly between industries and firms,
and their significance is highlighted especially in economic uncertainties.
According to the literature, bottom-up approaches complement traditional asset pricing models
by offering a more precise and flexible way to review how macroeconomic risk is shown in
expected returns on a firm-level.