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On Stable Factor Structurs in the Pricing of Risk

Listed author(s):
  • Ghysels, E.

Much of the research describing the cross-sectional and time series behavior of asset returns can be characterized as a search for the relevant state variables and also a search for the relevant model specification. Ultimately the scope of such efforts is to find a satisfactory and stable asset pricing structure. In this paper we discuss various methods to accomplish this and appraise the success of two recently proposed classes of asset pricing models in tracking predictable patterns in risk and return trade-offs. The two classes are the conditional CAPM and the nonlinear APT. The parameters of both models are estimated via a set of moment conditions using the GMM estimator and the model fit is judged on the basis of the overidentifying restrictions. The fundamental problem is that overidentifying restrictions tests are not designed to diagnose whether a model, provides a stable relationship between the return series and risk factors. We use a set of recently developed tests for structural stability of parameter estimates for the GMM estimator to diagnose which factor structures appear stable through time in the context of the two aforementioned classes of models. In the course of trying to sort out whether there is systematic mispricing we shall also try to determine what type of model looks most promising for further development. In that regard we find the nonlinear APT more satisfactory than the conditional APT and CAPM. Dans cette étude nous réexaminons les modèles à facteurs qui ont été proposés récemment, c'est à dire le CAPM conditionnel et l'APT non-linéaire. Ces modèles ont été estimés par la méthode des moments généralisée. La diagnostique usuelle pour juger ces modèles est la statistique de suridentification. Le problème fondamental de cette statistique est qu'elle n'a pas de puissance par rapport à des alternatives caractérisés par des variations de paramètres. Évidement, ces variations entraînent des erreurs sur l'évaluation du risque. Nous proposons d

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Paper provided by Centre interuniversitaire de recherche en économie quantitative, CIREQ in its series Cahiers de recherche with number 9525.

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Length: 36 pages
Date of creation: 1995
Handle: RePEc:mtl:montec:9525
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  1. Ghysels, Eric & Hall, Alastair, 1990. "A Test for Structural Stability of Euler Conditions Parameters Estimated via the Generalized Method of Moments Estimator," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 31(2), pages 355-364, May.
  2. Hansen, Lars Peter, 1982. "Large Sample Properties of Generalized Method of Moments Estimators," Econometrica, Econometric Society, vol. 50(4), pages 1029-1054, July.
  3. Eric Ghysels & Alain Guay & Alastair Hall, 1995. "Predictive Tests for Structural Change with Unknown Breakpoint," CIRANO Working Papers 95s-20, CIRANO.
  4. René Garcia & Eric Ghysels, 1996. "Structural Change and Asset Pricing in Emerging Markets," CIRANO Working Papers 96s-34, CIRANO.
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  8. Dufour, J.M. & Ghysels, E. & Hall, A., 1992. "Generalized Predictive Tests and Structural Change Analysis in Econometrics," Cahiers de recherche 9223, Universite de Montreal, Departement de sciences economiques.
  9. Ferson, Wayne E & Harvey, Campbell R, 1991. "The Variation of Economic Risk Premiums," Journal of Political Economy, University of Chicago Press, vol. 99(2), pages 385-415, April.
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  12. Ferson, Wayne E, 1990. " Are the Latent Variables in Time-Varying Expected Returns Compensation for Consumption Risk?," Journal of Finance, American Finance Association, vol. 45(2), pages 397-429, June.
  13. Donald W.K. Andrews, 1990. "Tests for Parameter Instability and Structural Change with Unknown Change Point," Cowles Foundation Discussion Papers 943, Cowles Foundation for Research in Economics, Yale University.
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  19. Lucas, Robert E, Jr, 1978. "Asset Prices in an Exchange Economy," Econometrica, Econometric Society, vol. 46(6), pages 1429-1445, November.
  20. Donald W.K. Andrews & Werner Ploberger, 1992. "Optimal Tests When a Nuisance Parameter Is Present Only Under the Alternative," Cowles Foundation Discussion Papers 1015, Cowles Foundation for Research in Economics, Yale University.
  21. Huberman, Gur, 1982. "A simple approach to arbitrage pricing theory," Journal of Economic Theory, Elsevier, vol. 28(1), pages 183-191, October.
  22. Chamberlain, Gary & Rothschild, Michael, 1982. "Arbitrage, Factor Structure, and Mean-Variance Analysis on Large Asset Markets," Scholarly Articles 3230355, Harvard University Department of Economics.
  23. Connor, Gregory, 1984. "A unified beta pricing theory," Journal of Economic Theory, Elsevier, vol. 34(1), pages 13-31, October.
  24. Ghysels, Eric & Hall, Alastair, 1990. "Are consumption-based intertemporal capital asset pricing models structural?," Journal of Econometrics, Elsevier, vol. 45(1-2), pages 121-139.
  25. Bansal, Ravi & Hsieh, David A & Viswanathan, S, 1993. " A New Approach to International Arbitrage Pricing," Journal of Finance, American Finance Association, vol. 48(5), pages 1719-1747, December.
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