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Empirical analysis of the forecast error impact of classical and bayesian beta adjustment techniques

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  • Sinha, Pankaj
  • Jayaraman, Prabha

Abstract

The paper presents a comparative study of conventional beta adjustment techniques and suggests an improved Bayesian model for beta forecasting. The seminal papers of Blume (1971) and Levy (1971) suggested that for both single security and portfolio there was a tendency for relatively high and low beta coefficients to over predict and under predict, respectively, the corresponding betas for the subsequent time period. We utilize this proven fact to give a Bayesian adjustment technique under a bilinear loss function where the problem of overestimation and underestimation of future betas is rectified to an extent so as to give us improved beta forecasts. The accuracy and efficiency of our methodology with respect to existing procedures is shown by computing the mean square forecast error.

Suggested Citation

  • Sinha, Pankaj & Jayaraman, Prabha, 2012. "Empirical analysis of the forecast error impact of classical and bayesian beta adjustment techniques," MPRA Paper 37662, University Library of Munich, Germany.
    • Handle: RePEc:pra:mprapa:37662
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    File URL: https://mpra.ub.uni-muenchen.de/37662/1/MPRA_paper_37662.pdf
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    References listed on IDEAS

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    1. Bera, Anil K & Kannan, Srinivasan, 1986. "An Adjustment Procedure for Predicting Systematic Risk," Journal of Applied Econometrics, John Wiley & Sons, Ltd., vol. 1(4), pages 317-332, October.
    2. Eubank, Arthur A, Jr & Zumwalt, J Kenton, 1979. "An Analysis of the Forecast Error Impact of Alternative Beta Adjustment Techniques and Risk Classes," Journal of Finance, American Finance Association, vol. 34(3), pages 761-776, June.
    3. Jacob A. Mincer & Victor Zarnowitz, 1969. "The Evaluation of Economic Forecasts," NBER Chapters, in: Economic Forecasts and Expectations: Analysis of Forecasting Behavior and Performance, pages 3-46, National Bureau of Economic Research, Inc.
    4. Klemkosky, Robert C & Martin, John D, 1975. "The Adjustment of Beta Forecasts," Journal of Finance, American Finance Association, vol. 30(4), pages 1123-1128, September.
    5. Vasicek, Oldrich A, 1973. "A Note on Using Cross-Sectional Information in Bayesian Estimation of Security Betas," Journal of Finance, American Finance Association, vol. 28(5), pages 1233-1239, December.
    6. Blume, Marshall E, 1971. "On the Assessment of Risk," Journal of Finance, American Finance Association, vol. 26(1), pages 1-10, March.
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    Cited by:

    1. Mehta, Deepshikha, 2015. "Evidences of Efficient Investment Portfolio in Indian Capital Markets - An Analysis Based on BSE and NSE Indices," EconStor Preprints 117335, ZBW - Leibniz Information Centre for Economics.
    2. Mehta, Deepshikha, 2015. "Evidences of efficient investment portfolio in Indian capital markets-An analysis based on BSE and NSE indices," MPRA Paper 66494, University Library of Munich, Germany.

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    More about this item

    Keywords

    Bayesian Beta adjustment technique; bi-linear loss function; portfolio risk measure;
    All these keywords.

    JEL classification:

    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • G32 - Financial Economics - - Corporate Finance and Governance - - - Financing Policy; Financial Risk and Risk Management; Capital and Ownership Structure; Value of Firms; Goodwill
    • C1 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods and Methodology: General
    • C11 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods and Methodology: General - - - Bayesian Analysis: General

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