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HACking at Non-linearity: Evidence from Stocks and Bonds

  • Robert J Bianchi

    ()

    (School of Economics and Finance, Queensland University of Technology)

  • Adam E Clements

    ()

    (School of Economics and Finance, Queensland University of Technology)

  • Michael E Drew

The implicit assumption of linearity is an important element in empirical finance. This study presents a hypothesis testing approach which examines the linear behaviour of the conditional mean between stock and bond returns. Conventional tests detect spurious non-linearity in the conditional mean caused by heteroskedasticity and/or autocorrelation. This study re-states these tests in a heteroskedasticity and autocorrelation consistent (HAC) framework and we find that stock and bond returns are indeed linear-in-the-mean in both univariate and bivariate settings. This study contends that previous research may have detected spurious non-linearity due to size distortions caused by heteroskedasticity and autocorrelation, rather than the presence of genuine non-linearity.

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File URL: http://external-apps.qut.edu.au/business/documents/discussionPapers/2009/244Bianchi.pdf
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Paper provided by School of Economics and Finance, Queensland University of Technology in its series School of Economics and Finance Discussion Papers and Working Papers Series with number 244.

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Length: 48 pages
Date of creation: 27 Jan 2009
Date of revision:
Handle: RePEc:qut:dpaper:244
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Web page: http://www.bus.qut.edu.au/faculty/economics/
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