A comparison of risk-premium forecasts implied by parametric versus nonparametric conditional mean estimators
AbstractThis paper computes parametric estimates of a time-varying risk premium model and compares the one-step-ahead forecasts implied by that model with those given by a nonparametric kernel estimator of the conditional mean function. The conditioning information used for the nonparametric analysis is that implied by the theoretical model of time-varying risk. Thus, the kernel estimator is used, in conjunction with a nonparametric diagnostic test for in-sample residual nonlinear structure, to assess the adequacy of the parametric model in capturing any structure in the excess returns. Our results support the parametric specification of an asset pricing model in which the conditional beta is the ratio of the relevant components of the conditional covariance matrix of returns modeled as a bivariate generalized ARCH process. Although the predictable component of the conditional moments is relatively small, the parametric estimator of the risk premia has somewhat more out-of-sample forecasting ability than does the kernel estimator. Hence, the superior in-sample performance of the latter may be attributed to overfitting.
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Bibliographic InfoArticle provided by Elsevier in its journal Journal of Econometrics.
Volume (Year): 52 (1992)
Issue (Month): 1-2 ()
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Web page: http://www.elsevier.com/locate/jeconom
Other versions of this item:
- Thomas H. McCurdy & Thansis Stengos, 1991. "A Comparison of Risk-Premium Forecasts implied by Parametric versus Nonparametric Conditional Mean Estimators," Working Papers 843, Queen's University, Department of Economics.
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- Bong-Chan, Kho, 1996. "Time-varying risk premia, volatility, and technical trading rule profits: Evidence from foreign currency futures markets," Journal of Financial Economics, Elsevier, vol. 41(2), pages 249-290, June.
- Robert Engle, 2002. "New frontiers for arch models," Journal of Applied Econometrics, John Wiley & Sons, Ltd., vol. 17(5), pages 425-446.
- Martin Scheicher, 2000. "Time-varying risk in the German stock market," The European Journal of Finance, Taylor & Francis Journals, vol. 6(1), pages 70-91.
- De Arce Borda, R., 2004. "20 años de modelos ARCH: una visión de conjunto de las distintas variantes de la familia/20 Years of Arch Modelling: a Survey of Different Models in the Family," Estudios de Economía Aplicada, Estudios de Economía Aplicada, vol. 22, pages 27, Abril.
- Paul D. McNelis & G.C. Lim, 1998. "Parameterizing Currency Risk in the EMS: The Irish Pound and Spanish Peseta against the German Mark," International Finance 9805001, EconWPA.
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