Advanced Search
MyIDEAS: Login to save this paper or follow this series

Efficient estimation of a semiparametric characteristic-based factor model of security returns

Contents:

Author Info

  • Gregory Connor
  • Matthias Hagmann
  • Oliver Linton

Abstract

This paper develops a new estimation procedure for characteristic-based factor models of security returns. We treat the factor model as a weighted additive nonparametric regression model, with the factor returns serving as time-varying weights, and a set of univariate non-parametric functions relating security characteristic to the associated factor betas. We use a time-series and cross-sectional pooled weighted additive nonparametric regression methodology to simultaneously estimate the factor returns and characteristicbeta functions. By avoiding the curse of dimensionality our methodology allows for a larger number of factors than existing semiparametric methods. We apply the technique to the three-factor Fama-French model, Carhart’s four-factor extension of it adding a momentum factor, and a five-factor extension adding an own-volatility factor. We found that momentum and ownvolatility factors are at least as important if not more important than size and value in explaining equity return comovements. We test the multifactor beta pricing theory against the Capital Asset Pricing model using a standard test, and against a general alternative using a new nonparametric test.

Download Info

If you experience problems downloading a file, check if you have the proper application to view it first. In case of further problems read the IDEAS help page. Note that these files are not on the IDEAS site. Please be patient as the files may be large.
File URL: http://eprints.lse.ac.uk/3775/
File Function: Open access version.
Download Restriction: no

Bibliographic Info

Paper provided by London School of Economics and Political Science, LSE Library in its series LSE Research Online Documents on Economics with number 3775.

as in new window
Length: 60 pages
Date of creation: Oct 2007
Date of revision:
Handle: RePEc:ehl:lserod:3775

Contact details of provider:
Postal: LSE Library Portugal Street London, WC2A 2HD, U.K.
Phone: +44 (020) 7405 7686
Web page: http://www.lse.ac.uk/
More information through EDIRC

Related research

Keywords: Additive Models; Arbitrage pricing theory; Factor model; Fama-French; Kernel estimation; Nonparametric regression; Panel data;

Other versions of this item:

Find related papers by JEL classification:

References

References listed on IDEAS
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
as in new window
  1. Andrew W. Lo & A. Craig MacKinlay, 1989. "When are Contrarian Profits Due to Stock Market Overreaction?," NBER Working Papers 2977, National Bureau of Economic Research, Inc.
  2. Linton, Oliver B. & Mammen, Enno, 2008. "Nonparametric transformation to white noise," Journal of Econometrics, Elsevier, vol. 142(1), pages 241-264, January.
  3. Bent Nielsen & Lars Hougaard Hansen, 2004. "Two sided analysis of variance with a latent time series," Economics Series Working Papers 2004-W25, University of Oxford, Department of Economics.
  4. Powell, James L & Stock, James H & Stoker, Thomas M, 1989. "Semiparametric Estimation of Index Coefficients," Econometrica, Econometric Society, vol. 57(6), pages 1403-30, November.
  5. Carhart, Mark M, 1997. " On Persistence in Mutual Fund Performance," Journal of Finance, American Finance Association, vol. 52(1), pages 57-82, March.
  6. Bai, Jushan, 2004. "Estimating cross-section common stochastic trends in nonstationary panel data," Journal of Econometrics, Elsevier, vol. 122(1), pages 137-183, September.
  7. Linton, Oliver B. & Perch Nielsen, Jens & Van de Geer, Sara, 2001. "Estimating Multiplicative and Additive Hazard Functions by Kernel Methods," Finance Working Papers 01-2, University of Aarhus, Aarhus School of Business, Department of Business Studies.
  8. John Y. Campbell & Martin Lettau & Burton G. Malkiel & Yexiao Xu, 2000. "Have Individual Stocks Become More Volatile? An Empirical Exploration of Idiosyncratic Risk," NBER Working Papers 7590, National Bureau of Economic Research, Inc.
  9. James H. Stock & Mark W. Watson, 1998. "Diffusion Indexes," NBER Working Papers 6702, National Bureau of Economic Research, Inc.
  10. Gozalo, Pedro L. & Linton, Oliver B., 2001. "Testing additivity in generalized nonparametric regression models with estimated parameters," Journal of Econometrics, Elsevier, vol. 104(1), pages 1-48, August.
  11. Oliver Linton & Gregory Connor, 2000. "Semiparametric Estimation of a Characteristic-Based Factor Model of Stock Returns," FMG Discussion Papers dp346, Financial Markets Group.
  12. Ang, Andrew & Hodrick, Robert J. & Xing, Yuhang & Zhang, Xiaoyan, 2009. "High idiosyncratic volatility and low returns: International and further U.S. evidence," Journal of Financial Economics, Elsevier, vol. 91(1), pages 1-23, January.
  13. Andrew Ang & Robert J. Hodrick & Yuhang Xing & Xiaoyan Zhang, 2006. "The Cross-Section of Volatility and Expected Returns," Journal of Finance, American Finance Association, vol. 61(1), pages 259-299, 02.
  14. Park, Byeong U. & Mammen, Enno & Härdle, Wolfgang & Borak, Szymon, 2009. "Time Series Modelling With Semiparametric Factor Dynamics," Journal of the American Statistical Association, American Statistical Association, vol. 104(485), pages 284-298.
  15. BAUWENS, Luc & LAURENT, Sébastien & ROMBOUTS, Jeroen VK, . "Multivariate GARCH models: a survey," CORE Discussion Papers RP -1847, Université catholique de Louvain, Center for Operations Research and Econometrics (CORE).
  16. Gregory Connor & Oliver Linton, 2006. "Semiparametric Estimation of aCharacteristic-based Factor Model ofCommon Stock Returns," STICERD - Econometrics Paper Series /2006/506, Suntory and Toyota International Centres for Economics and Related Disciplines, LSE.
  17. Joel Horowitz & Enno Mammen, 2002. "Nonparametric estimation of an additive model with a link function," CeMMAP working papers CWP19/02, Centre for Microdata Methods and Practice, Institute for Fiscal Studies.
  18. Fama, Eugene F & French, Kenneth R, 1992. " The Cross-Section of Expected Stock Returns," Journal of Finance, American Finance Association, vol. 47(2), pages 427-65, June.
  19. Jushan Bai & Serena Ng, 2002. "Determining the Number of Factors in Approximate Factor Models," Econometrica, Econometric Society, vol. 70(1), pages 191-221, January.
  20. Eugene F. Fama & Kenneth R. French, 1998. "Value versus Growth: The International Evidence," Journal of Finance, American Finance Association, vol. 53(6), pages 1975-1999, December.
  21. Oliver Linton & Enno Mammen, 2003. "Estimating Semiparametric ARCH (8) Models by Kernel Smoothing Methods," STICERD - Econometrics Paper Series /2003/453, Suntory and Toyota International Centres for Economics and Related Disciplines, LSE.
  22. Oliver Linton & E. Mammen & J. Nielsen, 1997. "The Existence and Asymptotic Properties of a Backfitting Projection Algorithm Under Weak Conditions," Cowles Foundation Discussion Papers 1160, Cowles Foundation for Research in Economics, Yale University.
  23. Andrews, Donald W K, 1987. "Consistency in Nonlinear Econometric Models: A Generic Uniform Law of Large Numbers [On Unification of the Asymptotic Theory of Nonlinear Econometric Models]," Econometrica, Econometric Society, vol. 55(6), pages 1465-71, November.
  24. Fama, Eugene F. & French, Kenneth R., 1993. "Common risk factors in the returns on stocks and bonds," Journal of Financial Economics, Elsevier, vol. 33(1), pages 3-56, February.
  25. Bester, C. Alan & Hansen, Christian, 2009. "Identification of Marginal Effects in a Nonparametric Correlated Random Effects Model," Journal of Business & Economic Statistics, American Statistical Association, vol. 27(2), pages 235-250.
  26. O. Linton & E. Mammen, 2005. "Estimating Semiparametric ARCH(∞) Models by Kernel Smoothing Methods," Econometrica, Econometric Society, vol. 73(3), pages 771-836, 05.
  27. Racine, Jeffrey S., 2008. "Nonparametric Econometrics: A Primer," Foundations and Trends(R) in Econometrics, now publishers, vol. 3(1), pages 1-88, March.
  28. Peter C.B. Phillips & Hyungsik R. Moon, 1999. "Linear Regression Limit Theory for Nonstationary Panel Data," Cowles Foundation Discussion Papers 1222, Cowles Foundation for Research in Economics, Yale University.
  29. Ross, Stephen A., 1976. "The arbitrage theory of capital asset pricing," Journal of Economic Theory, Elsevier, vol. 13(3), pages 341-360, December.
  30. Connor, Gregory & Korajczyk, Robert A., 1988. "Risk and return in an equilibrium APT : Application of a new test methodology," Journal of Financial Economics, Elsevier, vol. 21(2), pages 255-289, September.
  31. Christopher Bowdler & Luca Nunziata, 2004. "A note on the determinants of inflation starts in the OECD," Economics Papers 2004-W11, Economics Group, Nuffield College, University of Oxford.
  32. Jianqing Fan & Qiwei Yao, 1998. "Efficient estimation of conditional variance functions in stochastic regression," LSE Research Online Documents on Economics 6635, London School of Economics and Political Science, LSE Library.
  33. Pakes, Ariel & Pollard, David, 1989. "Simulation and the Asymptotics of Optimization Estimators," Econometrica, Econometric Society, vol. 57(5), pages 1027-57, September.
  34. M. Hashem Pesaran, 2004. "Estimation and Inference in Large Heterogeneous Panels with a Multifactor Error Structure," CESifo Working Paper Series 1331, CESifo Group Munich.
  35. Jones, Christopher S., 2001. "Extracting factors from heteroskedastic asset returns," Journal of Financial Economics, Elsevier, vol. 62(2), pages 293-325, November.
  36. Gibbons, Michael R & Ross, Stephen A & Shanken, Jay, 1989. "A Test of the Efficiency of a Given Portfolio," Econometrica, Econometric Society, vol. 57(5), pages 1121-52, September.
  37. Jushan Bai, 2003. "Inferential Theory for Factor Models of Large Dimensions," Econometrica, Econometric Society, vol. 71(1), pages 135-171, January.
  38. Connor, Gregory & Korajczyk, Robert A, 1993. " A Test for the Number of Factors in an Approximate Factor Model," Journal of Finance, American Finance Association, vol. 48(4), pages 1263-91, September.
  39. Connor, Gregory & Korajczyk, Robert A. & Linton, Oliver, 2006. "The common and specific components of dynamic volatility," Journal of Econometrics, Elsevier, vol. 132(1), pages 231-255, May.
  40. Baltagi, Badi H. & Hidalgo, Javier & Li, Qi, 1996. "A nonparametric test for poolability using panel data," Journal of Econometrics, Elsevier, vol. 75(2), pages 345-367, December.
  41. Jegadeesh, Narasimhan & Titman, Sheridan, 1993. " Returns to Buying Winners and Selling Losers: Implications for Stock Market Efficiency," Journal of Finance, American Finance Association, vol. 48(1), pages 65-91, March.
  42. Amit Goyal & Pedro Santa-Clara, 2003. "Idiosyncratic Risk Matters!," Journal of Finance, American Finance Association, vol. 58(3), pages 975-1008, 06.
Full references (including those not matched with items on IDEAS)

Citations

Lists

This item is not listed on Wikipedia, on a reading list or among the top items on IDEAS.

Statistics

Access and download statistics

Corrections

When requesting a correction, please mention this item's handle: RePEc:ehl:lserod:3775. See general information about how to correct material in RePEc.

For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Lucy Ayre).

If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

If references are entirely missing, you can add them using this form.

If the full references list an item that is present in RePEc, but the system did not link to it, you can help with this form.

If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your profile, as there may be some citations waiting for confirmation.

Please note that corrections may take a couple of weeks to filter through the various RePEc services.