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Are advanced emerging market stock returns predictable? A regime-switching forecast combination approach

Author

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  • Bahrami, Afsaneh
  • Shamsuddin, Abul
  • Uylangco, Katherine

Abstract

Advanced emerging markets (AEMs) transitioning into developed markets experience far-reaching economic and institutional changes. Developing predictive models of stock returns in AEMs involves challenges of parameter instability and model uncertainty. This study uses Markov regime switching (MRS) models to address parameter instability and a combination forecast approach to mitigate model uncertainty. We find that the MRS model better captures the effects of predictor variables on returns compared to models with time-invariant parameters and produces statistically and economically significant return forecasts. Combining return forecasts from different MRS models further improves return predictability in AEMs. Consequently, employing MRS models in conjunction with the combination forecast approach goes a long way to improving forecast accuracy in AEMs.

Suggested Citation

  • Bahrami, Afsaneh & Shamsuddin, Abul & Uylangco, Katherine, 2019. "Are advanced emerging market stock returns predictable? A regime-switching forecast combination approach," Pacific-Basin Finance Journal, Elsevier, vol. 55(C), pages 142-160.
    • Handle: RePEc:eee:pacfin:v:55:y:2019:i:c:p:142-160
    DOI: 10.1016/j.pacfin.2019.02.003
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    Citations

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    Cited by:

    1. Yanying Zhang & Yiuman Tse & Gaiyan Zhang, 2022. "Return predictability between industries and the stock market in China," Pacific Economic Review, Wiley Blackwell, vol. 27(2), pages 194-220, May.
    2. Awijen, Haithem & Ben Zaied, Younes & Ben Lahouel, Béchir & Khlifi, Foued, 2023. "Machine learning for US cross-industry return predictability under information uncertainty," Research in International Business and Finance, Elsevier, vol. 64(C).
    3. Dai, Zhifeng & Zhu, Huan, 2020. "Stock return predictability from a mixed model perspective," Pacific-Basin Finance Journal, Elsevier, vol. 60(C).

    More about this item

    Keywords

    Return predictability; Markov regime-switching; Forecast combinations; Advanced emerging markets;
    All these keywords.

    JEL classification:

    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • F31 - International Economics - - International Finance - - - Foreign Exchange
    • G14 - Financial Economics - - General Financial Markets - - - Information and Market Efficiency; Event Studies; Insider Trading
    • G15 - Financial Economics - - General Financial Markets - - - International Financial Markets
    • G17 - Financial Economics - - General Financial Markets - - - Financial Forecasting and Simulation

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