Evaluating alternative methods for testing asset pricing models with historical data

Gonzalo Rubio and Martin Lozano

MPRA Paper from University Library of Munich, Germany

Abstract: We follow the correct Jagannathan and Wang (2002) framework for comparing the estimates and specification tests of the classical Beta and Stochastic Discount Factor/Generalized Method of Moments (SDF/GMM) methods. We extend previous studies by considering not only single but also multifactor models, and by taking into account some of the prescriptions for improving empirical tests suggested by Lewellen, Nagel and Shanken (2009). Our results reveal that SDF/GMM first-stage estimators lead to lower pricing errors than OLS, while SDF/GMM second-stage estimators display higher pricing errors than the classical Beta GLS method. While Jagannathan and Wang (2002), and Cochrane (2005) conclude that there are no differences when estimating and testing by the Beta and SDF/GMM methods for the CAPM, we show that their conclusion can not be extensible for multifactor models. Moreover, the Beta method (OLS and GLS) seem to dominate the SDF/GMM (first and second-stage) procedure in terms of estimators’ properties. These results are consistent across benchmark portfolios and sample periods.

Keywords: Beta Pricing Models; Stochastic Discount Factor; Pricing Errors; Evaluation of Factor Models. (search for similar items in EconPapers)
JEL-codes: C51 C52 G12 (search for similar items in EconPapers)
Date: 2009-09-08
New Economics Papers: this item is included in nep-ecm
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Citations: View citations in EconPapers (2)

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Related works:
Journal Article: Evaluating alternative methods for testing asset pricing models with historical data (2011)
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