Identification and Inference in Linear Stochastic Discount Factor Models with Excess Returns

No 16634, NBER Working Papers from National Bureau of Economic Research, Inc

Abstract: When excess returns are used to estimate linear stochastic discount factor (SDF) models, researchers often adopt a normalization of the SDF that sets its mean to 1, or one that sets its intercept to 1. These normalizations are often treated as equivalent, but they are subtly different both in population, and in finite samples. Standard asymptotic inference relies on rank conditions that differ across the two normalizations, and which can fail to differing degrees. I first establish that failure of the rank conditions is a genuine concern for many well known SDF models in the literature. I also describe how failure of the rank conditions can affect inference, both in population and in finite samples. I propose using tests of the rank conditions not only as a diagnostic device, but also for model reduction. I show that this model reduction procedure has desirable size and power properties in a Monte Carlo experiment with a calibrated model.

JEL-codes: C3 G12 (search for similar items in EconPapers)
Date: 2010-12
Note: AP EFG
References: Add references at CitEc
Citations: View citations in EconPapers (9)

Published as Craig Burnside, 2016. "Identification and Inference in Linear Stochastic Discount Factor Models with Excess Returns," Journal of Financial Econometrics, vol 14(2), pages 295-330.

Downloads: (external link)
http://www.nber.org/papers/w16634.pdf (application/pdf)

Related works:
Journal Article: Identification and Inference in Linear Stochastic Discount Factor Models with Excess Returns (2016)
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: https://EconPapers.repec.org/RePEc:nbr:nberwo:16634

Ordering information: This working paper can be ordered from
http://www.nber.org/papers/w16634

Access Statistics for this paper

More papers in NBER Working Papers from National Bureau of Economic Research, Inc National Bureau of Economic Research, 1050 Massachusetts Avenue Cambridge, MA 02138, U.S.A.. Contact information at EDIRC.
Bibliographic data for series maintained by ().