HACking at Non-linearity: Evidence from Stocks and Bonds
AbstractThe 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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Bibliographic InfoPaper 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.
Length: 48 pages
Date of creation: 27 Jan 2009
Date of revision:
linearity; nonlinear; heteroskedasticity-robust tests; autocorrelation-robust tests;
Find related papers by JEL classification:
- G00 - Financial Economics - - General - - - General
- G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
- G14 - Financial Economics - - General Financial Markets - - - Information and Market Efficiency; Event Studies; Insider Trading
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