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A Strategy-Proof Test of Portfolio Returns

Author

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  • H Peyton Young
  • Dean P. Foster

Abstract

Traditional methods for analyzing portfolio returns often rely on multifactor risk assessment, and tests of significance are typically based on variants of the t-test. This approach has serious limitations when analyzing the returns from dynamically traded portfolios that include derivative positions, because standard tests of significance can be 'gamed' using options trading strategies. To deal with this problem we propose a test that assumes nothing about the structure of returns except that they form a martingale difference. Although the test is conservative and corrects for unrealized tail risk, the loss in power is small at high levels of significance.

Suggested Citation

  • H Peyton Young & Dean P. Foster, 2011. "A Strategy-Proof Test of Portfolio Returns," Economics Series Working Papers 567, University of Oxford, Department of Economics.
  • Handle: RePEc:oxf:wpaper:567
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    File URL: http://www.economics.ox.ac.uk/materials/papers/5224/paper557.pdf
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    References listed on IDEAS

    as
    1. Dean P. Foster & H. Peyton Young, 2010. "Gaming Performance Fees By Portfolio Managers," The Quarterly Journal of Economics, Oxford University Press, vol. 125(4), pages 1435-1458.
    2. Alvaro Sandroni & Rann Smorodinsky & Rakesh V. Vohra, 2003. "Calibration with Many Checking Rules," Mathematics of Operations Research, INFORMS, vol. 28(1), pages 141-153, February.
    Full references (including those not matched with items on IDEAS)

    More about this item

    Keywords

    Excess returns; Martingale maximal inequality; Hypothesis test;

    JEL classification:

    • G32 - Financial Economics - - Corporate Finance and Governance - - - Financing Policy; Financial Risk and Risk Management; Capital and Ownership Structure; Value of Firms; Goodwill
    • D86 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Economics of Contract Law

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