HACking at Non-linearity: Evidence from Stocks and Bonds
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.
|Date of creation:||27 Jan 2009|
|Date of revision:|
|Contact details of provider:|| Postal: GPO Box 2434, BRISBANE QLD 4001|
Web page: http://www.bus.qut.edu.au/faculty/economics/
More information through EDIRC
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
- Sercu, Piet & Uppal, Raman & Van Hulle, Cynthia, 1995. " The Exchange Rate in the Presence of Transaction Costs: Implications for Tests of Purchasing Power Parity," Journal of Finance, American Finance Association, vol. 50(4), pages 1309-19, September.
- Christopher S. Jones, 2003. "Nonlinear Mean Reversion in the Short-Term Interest Rate," Review of Financial Studies, Society for Financial Studies, vol. 16(3), pages 793-843, July.
- Ait-Sahalia, Yacine, 1996.
"Testing Continuous-Time Models of the Spot Interest Rate,"
Review of Financial Studies,
Society for Financial Studies, vol. 9(2), pages 385-426.
- Yacine Ait-Sahalia, 1995. "Testing Continuous-Time Models of the Spot Interest Rate," NBER Working Papers 5346, National Bureau of Economic Research, Inc.
- Opong, Kwaku K. & Mulholland, Gwyneth & Fox, Alan F. & Farahmand, Kambiz, 1999. "The behaviour of some UK equity indices: An application of Hurst and BDS tests1," Journal of Empirical Finance, Elsevier, vol. 6(3), pages 267-282, September.
- Mark Mitchell, 2001. "Characteristics of Risk and Return in Risk Arbitrage," Journal of Finance, American Finance Association, vol. 56(6), pages 2135-2175, December.
- Bollerslev, Tim & Chou, Ray Y. & Kroner, Kenneth F., 1992. "ARCH modeling in finance : A review of the theory and empirical evidence," Journal of Econometrics, Elsevier, vol. 52(1-2), pages 5-59.
- Carhart, Mark M, 1997. " On Persistence in Mutual Fund Performance," Journal of Finance, American Finance Association, vol. 52(1), pages 57-82, March.
- David A. Chapman & Neil D. Pearson, 1998.
"Is the Short Rate Drift Actually Nonlinear?,"
- Ross, Stephen A., 1976. "The arbitrage theory of capital asset pricing," Journal of Economic Theory, Elsevier, vol. 13(3), pages 341-360, December.
- Lee, Tae-Hwy & White, Halbert & Granger, Clive W. J., 1993.
"Testing for neglected nonlinearity in time series models : A comparison of neural network methods and alternative tests,"
Journal of Econometrics,
Elsevier, vol. 56(3), pages 269-290, April.
- Tom Doan, . "REGWHITENNTEST: RATS procedure to perform White neural network test on regression," Statistical Software Components RTS00183, Boston College Department of Economics.
- Tom Doan, . "REGRESET: RATS procedure to perform Ramsey RESET test on regression," Statistical Software Components RTS00181, Boston College Department of Economics.
- Tim Bollerslev, 1986.
"Generalized autoregressive conditional heteroskedasticity,"
EERI Research Paper Series
EERI RP 1986/01, Economics and Econometrics Research Institute (EERI), Brussels.
- Bollerslev, Tim, 1986. "Generalized autoregressive conditional heteroskedasticity," Journal of Econometrics, Elsevier, vol. 31(3), pages 307-327, April.
- He, Hua & Modest, David M, 1995.
"Market Frictions and Consumption-Based Asset Pricing,"
Journal of Political Economy,
University of Chicago Press, vol. 103(1), pages 94-117, February.
- Hua He and David M. Modest., 1992. "Market Frictions and Consumption-Based Asset Pricing," Research Program in Finance Working Papers RPF-223, University of California at Berkeley.
- repec:att:wimass:9520 is not listed on IDEAS
- Dumas, Bernard, 1992. "Dynamic Equilibrium and the Real Exchange Rate in a Spatially Separated World," Review of Financial Studies, Society for Financial Studies, vol. 5(2), pages 153-80.
- Scheinkman, Jose A & LeBaron, Blake, 1989. "Nonlinear Dynamics and Stock Returns," The Journal of Business, University of Chicago Press, vol. 62(3), pages 311-37, July.
- Stanton, Richard, 1997. " A Nonparametric Model of Term Structure Dynamics and the Market Price of Interest Rate Risk," Journal of Finance, American Finance Association, vol. 52(5), pages 1973-2002, December.
- Andrei Shleifer ad Robert W. Vishny, 1995.
"The Limits of Arbitrage,"
Harvard Institute of Economic Research Working Papers
1725, Harvard - Institute of Economic Research.
- Taylor, Mark P. & Peel, David A., 2000. "Nonlinear adjustment, long-run equilibrium and exchange rate fundamentals," Journal of International Money and Finance, Elsevier, vol. 19(1), pages 33-53, February.
- Hamilton, James D, 1989. "A New Approach to the Economic Analysis of Nonstationary Time Series and the Business Cycle," Econometrica, Econometric Society, vol. 57(2), pages 357-84, March.
- Angela J. Black & David G. McMillan, 2004. "Non-linear Predictability of Value and Growth Stocks and Economic Activity," Journal of Business Finance & Accounting, Wiley Blackwell, vol. 31(3-4), pages 439-474.
- Granger, Clive W J, 1993. "Strategies for Modelling Nonlinear Time-Series Relationships," The Economic Record, The Economic Society of Australia, vol. 69(206), pages 233-38, September.
- McMillan, David G., 2005. "Non-linear dynamics in international stock market returns," Review of Financial Economics, Elsevier, vol. 14(1), pages 81-91.
- Jacob Boudoukh & Matthew Richardson & Robert F. Whitelaw, 1997. "Nonlinearities in the Relation Between the Equity Risk Premium and the Term Structure," Management Science, INFORMS, vol. 43(3), pages 371-385, March.
- Fama, Eugene F & French, Kenneth R, 1992. " The Cross-Section of Expected Stock Returns," Journal of Finance, American Finance Association, vol. 47(2), pages 427-65, June.
When requesting a correction, please mention this item's handle: RePEc:qut:dpaper:244. See general information about how to correct material in RePEc.
For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Angela Fletcher)
If references are entirely missing, you can add them using this form.