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Capturing the Impact of Unobserved Sector-Wide Shocks on Stock Returns with Panel Data Model

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  • KiHoon Jimmy Hong
  • Bin Peng
  • Xiaohui Zhang

Abstract

type="main" xml:id="ecor12208-abs-0001"> Unobserved sector-wide common shocks cause the issue of cross-sectional dependence (CSD) in panel data modelling of stock returns. In this study we apply two econometric techniques: the seemingly unrelated regression approach and a Bayesian estimator for panel data models with factor structural errors, to allow for CSD within a particular sector. By applying these models to monthly stock returns of S&P100 companies from six sectors over 10 years, we can capture and measure the heterogeneous impacts of not only observed individual company accounting fundamentals and market-wide common shocks, but also unobservable sector-wide common shocks. Results from the empirical study show that the impacts from both observed factors and unobserved sector-wide common shocks vary markedly across companies. After controlling for observed accounting fundamentals and market-wide common factors, a considerable proportion of the variation in stock returns can be attributed to unobservable sector-wide common shocks.

Suggested Citation

  • KiHoon Jimmy Hong & Bin Peng & Xiaohui Zhang, 2015. "Capturing the Impact of Unobserved Sector-Wide Shocks on Stock Returns with Panel Data Model," The Economic Record, The Economic Society of Australia, vol. 91(295), pages 495-508, December.
    • Handle: RePEc:bla:ecorec:v:91:y:2015:i:295:p:495-508
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    File URL: http://hdl.handle.net/10.1111/ecor.2015.91.issue-295
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    References listed on IDEAS

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    Cited by:

    1. Yu, Gun Jea & Hong, KiHoon, 2016. "Patents and R&D expenditure in explaining stock price movements," Finance Research Letters, Elsevier, vol. 19(C), pages 197-203.

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