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There is a Risk-Return Tradeoff After All

  • Eric Ghysels
  • Pedro Santa-Clara
  • Rossen Valkanov

This paper studies the ICAPM intertemporal relation between the conditional mean and the conditional variance of the aggregate stock market return. We introduce a new estimator that forecasts monthly variance with past daily squared returns - the Mixed Data Sampling (or MIDAS) approach. Using MIDAS, we find that there is a significantly positive relation between risk and return in the stock market. This finding is robust in subsamples, to asymmetric specifications of the variance process, and to controlling for variables associated with the business cycle. We compare the MIDAS results with tests of the ICAPM based on alternative conditional variance specifications and explain the conflicting results in the literature. Finally, we offer new insights about the dynamics of conditional variance. Dans ce papier, nous estimons le modèle ICAPM intertemporal avec une nouvelle classe d'estimateurs, intitulée MIDAS. Cette procédure d'estimation combine des données échantillonnées à différentes fréquences. Utilisant le nouvel estimateur, nous constatons une relation positive et significative entre le rendement et la volatilité.

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Paper provided by CIRANO in its series CIRANO Working Papers with number 2004s-24.

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Length: 56 pages
Date of creation: 01 May 2004
Date of revision:
Handle: RePEc:cir:cirwor:2004s-24
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