We employ Campbell and Shiller's (1989) VAR methodology to examine the rela
tive performance of the CAPM and the consumption-CAPM. We find that althoug
h neither provides a complete description of stock price behaviour, the for
mer clearly dominates the latter. We then consider the implications for sub
-sectors of the market. According to the CAPM, subsector returns depend on
the covariance of sub-sector returns with market returns. However, if analy
sts are more skilled at eliminating mis-pricing in sub-sectors of the marke
t than in the market as a whole, the required return on a sectoral portfoli
o may depend only on the expected return variance within that sub-sector. U
sing quarterly UK data for five industry-based portfolios, we find little s
upport for the covariance model at the sectoral level, whereas the own-vari
ance model fares better. It seems therefore that moving from return varianc
es to covariances produces little if any improvement in the performance of
the CAPM.