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Stock Return Serial Dependence and Out-of-Sample Portfolio Performance


  • DeMiguel, Victor
  • Nogales, Francisco J.
  • Uppal, Raman


We study whether investors can exploit stock return serial dependence to improve out-of- sample portfolio performance. To do this, we first show that a vector-autoregressive (VAR) model estimated with ridge regression captures daily stock return serial dependence in a stable manner. Second, we characterize (analytically and empirically) expected returns of VAR-based arbitrage portfolios, and show that they compare favorably to those of existing arbitrage portfolios. Third, we evaluate the performance of VAR-based investment (positive-cost) portfolios. We show that, subject to a suitable norm constraint, these portfolios outperform the traditional (unconditional) portfolios for transaction costs below 10 basis points.

Suggested Citation

  • DeMiguel, Victor & Nogales, Francisco J. & Uppal, Raman, 2013. "Stock Return Serial Dependence and Out-of-Sample Portfolio Performance," CEPR Discussion Papers 9456, C.E.P.R. Discussion Papers.
  • Handle: RePEc:cpr:ceprdp:9456

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    References listed on IDEAS

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    4. Victor DeMiguel & Lorenzo Garlappi & Francisco J. Nogales & Raman Uppal, 2009. "A Generalized Approach to Portfolio Optimization: Improving Performance by Constraining Portfolio Norms," Management Science, INFORMS, vol. 55(5), pages 798-812, May.
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    8. Chan, Louis K C & Karceski, Jason & Lakonishok, Josef, 1999. "On Portfolio Optimization: Forecasting Covariances and Choosing the Risk Model," Review of Financial Studies, Society for Financial Studies, vol. 12(5), pages 937-974.
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    Cited by:

    1. Hautsch, Nikolaus & Voigt, Stefan, 2019. "Large-scale portfolio allocation under transaction costs and model uncertainty," Journal of Econometrics, Elsevier, vol. 212(1), pages 221-240.
    2. Xue-Zhong He & Kai Li & Chuncheng Wang, 2018. "Time-varying economic dominance in financial markets: A bistable dynamics approach," Published Paper Series 2018-1, Finance Discipline Group, UTS Business School, University of Technology, Sydney.
    3. Alexander M. Chinco & Adam D. Clark-Joseph & Mao Ye, 2017. "Sparse Signals in the Cross-Section of Returns," NBER Working Papers 23933, National Bureau of Economic Research, Inc.
    4. Bollerslev, Tim & Patton, Andrew J. & Quaedvlieg, Rogier, 2018. "Modeling and forecasting (un)reliable realized covariances for more reliable financial decisions," Journal of Econometrics, Elsevier, vol. 207(1), pages 71-91.
    5. Massimo Guidolin & Erwin Hansen & Martín Lozano-Banda, 2018. "Portfolio performance of linear SDF models: an out-of-sample assessment," Quantitative Finance, Taylor & Francis Journals, vol. 18(8), pages 1425-1436, August.
    6. Kai Li & Jun Liu, 2016. "Reversing Momentum: The Optimal Dynamic Momentum Strategy," Research Paper Series 370, Quantitative Finance Research Centre, University of Technology, Sydney.
    7. Johannes Bock, 2018. "An updated review of (sub-)optimal diversification models," Papers 1811.08255,
    8. repec:eee:jbfina:v:97:y:2018:i:c:p:257-269 is not listed on IDEAS
    9. Bekaert, Geert & Panayotov, George, 2019. "Good Carry, Bad Carry," CEPR Discussion Papers 13463, C.E.P.R. Discussion Papers.
    10. repec:eee:ecofin:v:47:y:2019:i:c:p:168-183 is not listed on IDEAS
    11. Dominique Guegan & Giovanni de Luca & Giorgia Rivieccio, 2017. "Three-stage estimation method for non-linear multiple time-series," Université Paris1 Panthéon-Sorbonne (Post-Print and Working Papers) halshs-01439860, HAL.
    12. repec:eee:ejores:v:262:y:2017:i:3:p:1164-1180 is not listed on IDEAS
    13. Santos, André Alves Portela & Ferreira, Alexandre R., 2017. "On the choice of covariance specifications for portfolio selection problems," Brazilian Review of Econometrics, Sociedade Brasileira de Econometria - SBE, vol. 37(1), May.
    14. repec:eee:finana:v:58:y:2018:i:c:p:52-68 is not listed on IDEAS
    15. Cotter, John & Eyiah-Donkor, Emmanuel & Potì, Valerio, 2017. "Predictability and diversification benefits of investing in commodity and currency futures," International Review of Financial Analysis, Elsevier, vol. 50(C), pages 52-66.
    16. Rivieccio, Giorgia & De Luca, Giovanni, 2016. "Copula function approaches for the analysis of serial and cross dependence in stock returns," Finance Research Letters, Elsevier, vol. 17(C), pages 55-61.
    17. Mei, Xiaoling & DeMiguel, Victor & Nogales, Francisco J., 2016. "Multiperiod portfolio optimization with multiple risky assets and general transaction costs," Journal of Banking & Finance, Elsevier, vol. 69(C), pages 108-120.
    18. Dominique Guegan & Giovanni De Luca & Giorgia Rivieccio, 2017. "Three-stage estimation method for non-linear multiple time-series," Documents de travail du Centre d'Economie de la Sorbonne 17001, Université Panthéon-Sorbonne (Paris 1), Centre d'Economie de la Sorbonne.
    19. repec:eee:reveco:v:56:y:2018:i:c:p:109-124 is not listed on IDEAS
    20. repec:gam:jjrfmx:v:12:y:2019:i:1:p:45-:d:215182 is not listed on IDEAS
    21. Fletcher, Jonathan & Basu, Devraj, 2016. "An examination of the benefits of dynamic trading strategies in U.K. closed-end funds," International Review of Financial Analysis, Elsevier, vol. 47(C), pages 109-118.
    22. repec:eee:finlet:v:30:y:2019:i:c:p:327-333 is not listed on IDEAS
    23. Sangwon Suh, 2016. "A Combination Rule for Portfolio Selection with Transaction Costs," International Review of Finance, International Review of Finance Ltd., vol. 16(3), pages 393-420, September.
    24. Zhou, Zhongbao & Xiao, Helu & Yin, Jialing & Zeng, Ximei & Lin, Ling, 2016. "Pre-commitment vs. time-consistent strategies for the generalized multi-period portfolio optimization with stochastic cash flows," Insurance: Mathematics and Economics, Elsevier, vol. 68(C), pages 187-202.
    25. DeMiguel, Victor & Martin-Utrera, Alberto & Nogales, Francisco J. & Uppal, Raman, 2017. "A Portfolio Perspective on the Multitude of Firm Characteristics," CEPR Discussion Papers 12417, C.E.P.R. Discussion Papers.

    More about this item


    out-of-sample performance; portfolio choice; Serial dependence; vector autoregression;

    JEL classification:

    • G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions


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