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The macro-finance environment and asset allocation: A simultaneous equation approach

Author

Listed:
  • Moreno, Antonio
  • Orlando, James
  • Redin, Dulce M.

Abstract

We propose a novel methodology to identify latent factors influencing investment allocations in financial assets. By drawing logical paths in a structural equation model (SEM) framework, we uncover the role of a latent return factor that simultaneously shapes the dynamics of different financial assets. Our methodology allows for disentangling the different components of asset returns – those driven by fundamental and non-fundamental variables. We apply this methodology to Euro-area stocks and sovereign bonds over the 2003–2014 period. Lower economic and political uncertainty in Europe triggers a trade-off towards stocks and away from bonds, while U.S. Quantitative Easing boosts European stocks.

Suggested Citation

  • Moreno, Antonio & Orlando, James & Redin, Dulce M., 2016. "The macro-finance environment and asset allocation: A simultaneous equation approach," Finance Research Letters, Elsevier, vol. 18(C), pages 199-204.
    • Handle: RePEc:eee:finlet:v:18:y:2016:i:c:p:199-204
    DOI: 10.1016/j.frl.2016.04.017
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    References listed on IDEAS

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    1. Jae-On Kim & G. Donald Ferree Jr., 1981. "Standardization in Causal Analysis," Sociological Methods & Research, , vol. 10(2), pages 187-210, November.
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    Cited by:

    1. Mohsin, Muhammad & Taghizadeh-Hesary, Farhad & Panthamit, Nisit & Anwar, Saba & Abbas, Qaiser & Vo, Xuan Vinh, 2021. "Developing Low Carbon Finance Index: Evidence From Developed and Developing Economies," Finance Research Letters, Elsevier, vol. 43(C).

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    More about this item

    Keywords

    Structural equation model; Asset allocation; Latent return factor; Europe;
    All these keywords.

    JEL classification:

    • C30 - Mathematical and Quantitative Methods - - Multiple or Simultaneous Equation Models; Multiple Variables - - - General
    • G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions
    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates

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