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Do return prediction models add economic value?

  • Cenesizoglu, Tolga
  • Timmermann, Allan
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    We compare statistical and economic measures of forecasting performance across a large set of stock return prediction models with time-varying mean and volatility. We find that it is very common for models to produce higher out-of-sample mean squared forecast errors than a model assuming a constant equity premium, yet simultaneously add economic value when their forecasts are used to guide portfolio decisions. While there is generally a positive correlation between a return prediction model’s out-of-sample statistical performance and its ability to add economic value, the relation tends to be weak and only explains a small part of the cross-sectional variation in different models’ economic value.

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    Article provided by Elsevier in its journal Journal of Banking & Finance.

    Volume (Year): 36 (2012)
    Issue (Month): 11 ()
    Pages: 2974-2987

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    Handle: RePEc:eee:jbfina:v:36:y:2012:i:11:p:2974-2987
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