This research investigates the determinants of cost of equity using a data set of 263 firms listed on Pakistan stock exchange. Keeping in view the signaling effect of information on the performance of capital markets in Pakistan, we used Capital Asset Pricing Model (CAPM) to calculate the cost of equity. Correlation and regression analysis were run to test the main effect of net earnings, retention of fund, time interest earned, gearing, fixed asset backing, long term debt, tax, market capitalization on cost of equity. The results’ robustness is evidenced that market capitalization has significant impact on cost of equity. We also show that net earnings growth, retention of funds, times interest earned, gearing, fixed asset backing, long term debt and tax have no impact on cost of equity. Finally, we find a sector-specific range of cost of equity that falls between 11.54 to 16.78 percent. This indicates that financial markets in Pakistan are more volatile with respect to any information in line with the signaling theory.
Keywords: Determinants of Cost of Equity, Capital Asset Pricing Model, Pakistan