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Hierarchical Time-Varying Estimation of Asset Pricing Models

Author

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  • Richard T. Baillie

    (King’s Business School, King’s College London, 30 Aldwych, London WC2B 4BG, UK
    Department of Economics, Michigan State University, East Lansing, MI 48825, USA
    Rimini Center for Economic Analysis, Via Angherà 22, 47921 Rimini, Emilia-Romagna, Italy
    These authors contributed equally to this work.)

  • Fabio Calonaci

    (School of Economics and Finance, Queen Mary University of London, London E1 4NS, UK
    These authors contributed equally to this work.)

  • George Kapetanios

    (King’s Business School, King’s College London, 30 Aldwych, London WC2B 4BG, UK
    These authors contributed equally to this work.)

Abstract

This paper presents a new hierarchical methodology for estimating multi factor dynamic asset pricing models. The approach is loosely based on the sequential Fama–MacBeth approach and developed in a kernel regression framework. However, the methodology uses a very flexible bandwidth selection method which is able to emphasize recent data and information to derive the most appropriate estimates of risk premia and factor loadings at each point in time. The choice of bandwidths and weighting schemes are achieved by a cross-validation procedure; this leads to consistent estimators of the risk premia and factor loadings. Additionally, an out-of-sample forecasting exercise indicates that the hierarchical method leads to a statistically significant improvement in forecast loss function measures, independently of the type of factor considered.

Suggested Citation

  • Richard T. Baillie & Fabio Calonaci & George Kapetanios, 2022. "Hierarchical Time-Varying Estimation of Asset Pricing Models," JRFM, MDPI, vol. 15(1), pages 1-26, January.
    • Handle: RePEc:gam:jjrfmx:v:15:y:2022:i:1:p:14-:d:717311
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    Cited by:

    1. Amjad Taha & Gulcay Tuna, 2023. "Oil Price and Composite Risk Exposure within International Capital Asset Pricing Model: A Case of Saudi Arabia and Turkey," Energies, MDPI, vol. 16(7), pages 1-18, March.

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