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Heterogeneity in Stock Pricing: A STAR Model with Multivariate Transition Functions

  • Lof, Matthijs

Stock prices often diverge from measures of fundamental value, which simple present value models fail to explain. This paper tries to find causes for these long-run price movements and their persistence by estimating a STAR model for the price-earnings ratio of the S&P500 index for 1961Q1 - 2009Q3, with a transition function that depends on a wider set of exogenous or predetermined transition variables. Several economic, monetary and financial variables, as well as linear combinations of these, are found to have nonlinear effects on stock prices. A two-step estimation procedure is proposed to select the transition variables and estimate their weights. This STAR model can be interpreted as a heterogeneous agent asset pricing model that makes a distinction between chartists and fundamentalists, where the set of transition variables is included in the agents’ information set.

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File URL: http://mpra.ub.uni-muenchen.de/30520/1/MPRA_paper_30520.pdf
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File URL: http://mpra.ub.uni-muenchen.de/38571/2/MPRA_paper_38571.pdf
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Paper provided by University Library of Munich, Germany in its series MPRA Paper with number 30520.

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Date of creation: 01 Jul 2010
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Handle: RePEc:pra:mprapa:30520
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  1. Hommes, Cars H., 2006. "Heterogeneous Agent Models in Economics and Finance," Handbook of Computational Economics, in: Leigh Tesfatsion & Kenneth L. Judd (ed.), Handbook of Computational Economics, edition 1, volume 2, chapter 23, pages 1109-1186 Elsevier.
  2. S. Boragan Aruoba & Francis X. Diebold & Chiara Scotti, 2008. "Real-time measurement of business conditions," Working Papers 08-19, Federal Reserve Bank of Philadelphia.
  3. Shiller, Robert J, 1981. "Do Stock Prices Move Too Much to be Justified by Subsequent Changes in Dividends?," American Economic Review, American Economic Association, vol. 71(3), pages 421-36, June.
  4. John Y. Campbell & Robert J. Shiller, 2001. "Valuation Ratios and the Long-Run Stock Market Outlook: An Update," NBER Working Papers 8221, National Bureau of Economic Research, Inc.
  5. Dijk, Dick van & Franses, Philip Hans, 1999. "Modeling Multiple Regimes in the Business Cycle," Macroeconomic Dynamics, Cambridge University Press, vol. 3(03), pages 311-340, September.
  6. Ben Bernanke, 1990. "On the Predictive Power of Interest Rates and Interest Rate Spreads," NBER Working Papers 3486, National Bureau of Economic Research, Inc.
  7. Andrei Shleifer & Robert W. Vishny, 1995. "The Limits of Arbitrage," NBER Working Papers 5167, National Bureau of Economic Research, Inc.
  8. Eugene F. Fama & Kenneth R. French, . "Disappearing Dividends: Changing Firm Characteristics or Lower Propensity to Pay?."," CRSP working papers 509, Center for Research in Security Prices, Graduate School of Business, University of Chicago.
  9. Eitrheim, Oyvind & Terasvirta, Timo, 1996. "Testing the adequacy of smooth transition autoregressive models," Journal of Econometrics, Elsevier, vol. 74(1), pages 59-75, September.
  10. Munk, Claus, 2015. "Financial Asset Pricing Theory," OUP Catalogue, Oxford University Press, number 9780198716457, March.
  11. Don Bredin & Stuart Hyde, 2008. "Regime Change and the Role of International Markets on the Stock Returns of Small Open Economies," European Financial Management, European Financial Management Association, vol. 14(2), pages 315-346.
  12. repec:cup:cbooks:9780521424592 is not listed on IDEAS
  13. Brock, William A. & Hommes, Cars H., 1998. "Heterogeneous beliefs and routes to chaos in a simple asset pricing model," Journal of Economic Dynamics and Control, Elsevier, vol. 22(8-9), pages 1235-1274, August.
  14. Craig S. Hakkio & William R. Keeton, 2009. "Financial stress: what is it, how can it be measured, and why does it matter?," Economic Review, Federal Reserve Bank of Kansas City, issue Q II, pages 5-50.
  15. Van Norden, S. & Schaller, H., 1996. "Speculative Behaviour, Regime-Switching and Stock Market Crashes," Working Papers 96-13, Bank of Canada.
  16. Tesfatsion, Leigh & Judd, Kenneth L., 2006. "Handbook of Computational Economics, Vol. 2: Agent-Based Computational Economics," Staff General Research Papers 10368, Iowa State University, Department of Economics.
  17. Medeiros, Marcelo & Veiga, Alvaro, 2000. "A Flexible Coefficient Smooth Transition Time Series Model," SSE/EFI Working Paper Series in Economics and Finance 360, Stockholm School of Economics, revised 10 Feb 2000.
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