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Heteroskedasticity in Stock Returns

  • G. William Schwert
  • Paul J. Seguin

We use predictions of aggregate stock return variances from daily data to estimate time varying monthly variances for size-ranked portfolios. We propose and estimate a single factor model of heteroskedasticity for portfolio returns. This model implies time-varying betas. Implications of heteroskedasticity and time-varying betas for tests of the capital asset pricing model (CAPM) are then documented. Accounting for heteroskedasticity increases the evidence that risk-adjusted returns are related to firm size. We also estimate a constant correlation model. Portfolio volatilities predicted by this model are similar to those predicted by more complex multivariate generalized-autoregressive- conditional- heteroskedasticity (GARCH) procedures.

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Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 2956.

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Date of creation: Feb 1991
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Publication status: published as The Journal of Finance, Vol. XLV, No. 4, pp. 1129-1155, (September 1990).
Handle: RePEc:nbr:nberwo:2956
Note: ME
Contact details of provider: Postal: National Bureau of Economic Research, 1050 Massachusetts Avenue Cambridge, MA 02138, U.S.A.
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  18. Martin, John D & Klemkosky, Robert C, 1975. "Evidence of Heteroscedasticity in the Market Model," The Journal of Business, University of Chicago Press, vol. 48(1), pages 81-86, January.
  19. Pagan, Adrian, 1984. "Econometric Issues in the Analysis of Regressions with Generated Regressors," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 25(1), pages 221-47, February.
  20. Bollerslev, Tim & Engle, Robert F & Wooldridge, Jeffrey M, 1988. "A Capital Asset Pricing Model with Time-Varying Covariances," Journal of Political Economy, University of Chicago Press, vol. 96(1), pages 116-31, February.
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  22. Baillie, Richard T. & Bollerslev, Tim, 1990. "A multivariate generalized ARCH approach to modeling risk premia in forward foreign exchange rate markets," Journal of International Money and Finance, Elsevier, vol. 9(3), pages 309-324, September.
  23. G. William Schwert, 1990. "Why Does Stock Market Volatility Change Over Time?," NBER Working Papers 2798, National Bureau of Economic Research, Inc.
  24. Gibbons, Michael R. & Shanken, Jay, 1987. "Subperiod aggregation and the power of multivariate tests of portfolio efficiency," Journal of Financial Economics, Elsevier, vol. 19(2), pages 389-394, December.
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