A Research On The Stock Market Returns In China Based On The Improved Fama-French Three Factor Model

After nearly 20 years of development, Chinese stock market has grown into the largest stock market in the world, but as the characteristics of development and market environment are different from the Western stock markets, so for the Chinese stock market, is the modern financial theory based on the Western market effective? The Fama-French three factor model is a Standard Model on the determinant of stock market returns. Fama and French proposed that the rate of stock market return can be explained by three factors:excess return, size and book value ratio. So, can this model explain the rate of Chinese stock market return?China's stock market is full of distortions and speculation, so the explanatory power of the book value ratio should be reduced. Meanwhile, there are lots of non-tradable shares in Chinese stock market and as we know, the proportion of tradable shares can reflect the ownership structure and economic efficiency of the company, so the proportion of tradable shares can explain rate of Chinese stock return.Introducing floating-rate into the standard Fama-French three factor model, we modified the standard model, and test it. We analyze the data of all companies in the A share stock market from January 1998 to September 2009. There is evidence that the standard Fama-French three-factor model and the modified model both can explain the rate of A share return,and the modified model outperforms the standard model, the floating-rate outperforms the book value ratio.Furthermore, taking into account the stage characteristics of Chinese stock market, the data is divided into two stages. The results showed that:the modified model in two stages have strong explanatory power, but the explanatory power of the floating-rate at the later stage is reduced, which proved the effectiveness of split share structure reform.This paper has two contribution. First, we proved the explanatory power of the standard Fama-French Three-Factor Model. Second, we modified the Fama-French three-factor model and proved that floating-rate is more effective than the book value ratio, but the explanatory power is declining.