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Equity Indexing: Conitegration and Stock Price Dispersion: A Regime Switiching Approach to market Efficiency

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Author Info

  • Carol Alexander

    ()
    (ICMA Centre, University of Reading)

  • Anca Dimitriu

    ()
    (ICMA Centre, University of Reading)

Abstract

This paper examines the performance of a general dynamic equity indexing strategy based on cointegration, from a market efficiency perspective. A consistent return in excess of the benchmark is demonstrated over different time horizons and in different, real world and simulated stock markets. A measure of stock price dispersion is shown to be a leading indicator for the excess return, and their relationship is modelled as a Markov switching process of two market regimes. We find that the entire ‘abnormal return’ is associated with the high volatility regime, so the presence of a latent risk factor cannot be ruled out. Moreover, any market inefficiencies identified by the dynamic indexing model are temporary and occur only in special market circumstances. Our results have implications for equity fund managers: we shown how, without any stock selection, solely through smart optimisation and market timing, the benchmark performance can be significantly enhanced.

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Bibliographic Info

Paper provided by Henley Business School, Reading University in its series ICMA Centre Discussion Papers in Finance with number icma-dp2003-02.

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Length: 31 pages
Date of creation: Oct 2003
Date of revision:
Publication status: Published in International Journal of Finance and Economics 2005, 10, 213-231
Handle: RePEc:rdg:icmadp:icma-dp2003-02

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Postal: PO Box 218, Whiteknights, Reading, Berks, RG6 6AA
Phone: +44 (0) 118 378 8226
Fax: +44 (0) 118 975 0236
Web page: http://www.henley.reading.ac.uk/
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Related research

Keywords: cointegration; dispersion; efficient market hypothesis equity markets; index tracking; Markov switching;

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References

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Citations

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Cited by:
  1. Erie Febrian & Aldrin Herwany, 2009. "Volatility Forecasting Models and Market Co-Integration: A Study on South-East Asian Markets," Working Papers in Economics and Development Studies (WoPEDS) 200911, Department of Economics, Padjadjaran University, revised Sep 2009.
  2. Febrian, Erie & Herwany, Aldrin, 2007. "Co-integration and Causality Among Jakarta Stock Exchange, Singapore Stock Exchange, and Kuala Lumpur Stock Exchange," MPRA Paper 9632, University Library of Munich, Germany.
  3. Erie Febrian & Aldrin Herwany, 2010. "Volatility Forecasting Models and Market Co-Integration: A Study on South-East Asian Markets," Working Papers in Business, Management and Finance 201005, Department of Management and Business, Padjadjaran University, revised May 2010.
  4. Aldrin Herwany & Erie Febrian, 2009. "Co-integration and Causality Analysis on Developed Asian Markets For Risk Management & Portfolio Selection," Working Papers in Economics and Development Studies (WoPEDS) 200909, Department of Economics, Padjadjaran University, revised Sep 2009.

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