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HACking at Non-linearity: Evidence from Stocks and Bonds

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  • Robert J Bianchi

    ()
    (School of Economics and Finance, Queensland University of Technology)

  • Adam E Clements

    ()
    (School of Economics and Finance, Queensland University of Technology)

  • Michael E Drew

Abstract

The implicit assumption of linearity is an important element in empirical finance. This study presents a hypothesis testing approach which examines the linear behaviour of the conditional mean between stock and bond returns. Conventional tests detect spurious non-linearity in the conditional mean caused by heteroskedasticity and/or autocorrelation. This study re-states these tests in a heteroskedasticity and autocorrelation consistent (HAC) framework and we find that stock and bond returns are indeed linear-in-the-mean in both univariate and bivariate settings. This study contends that previous research may have detected spurious non-linearity due to size distortions caused by heteroskedasticity and autocorrelation, rather than the presence of genuine non-linearity.

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File URL: http://external-apps.qut.edu.au/business/documents/discussionPapers/2009/244Bianchi.pdf
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Bibliographic Info

Paper provided by School of Economics and Finance, Queensland University of Technology in its series School of Economics and Finance Discussion Papers and Working Papers Series with number 244.

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Length: 48 pages
Date of creation: 27 Jan 2009
Date of revision:
Handle: RePEc:qut:dpaper:244

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Web page: http://www.bus.qut.edu.au/faculty/economics/
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Keywords: linearity; nonlinear; heteroskedasticity-robust tests; autocorrelation-robust tests;

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