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A Unifying Approach to the Empirical Evaluation of Asset Pricing Models

Author

Listed:
  • Francisco Peñaranda

    (SanFI)

  • Enrique Sentana

    (CEMFI)

Abstract

Regression and SDF approaches with centered or uncentered moments and symmetric or asymmetric normalizations are commonly used to empirically evaluate linear factor pricing models. We show that unlike two-step or iterated GMM procedures, single-step estimators such as continuously updated GMM yield numerically identical risk prices, pricing errors, and overidentifying restrictions tests irrespective of the model validity and regardless of the factors being traded, or the use of excess or gross returns. We illustrate our results with Lustig and Verdelhan’s (2007) currency returns, propose tests to detect some problematic cases, and provide Monte Carlo evidence on the reliability of asymptotic approximations. © 2015 The President and Fellows of Harvard College and the Massachusetts Institute of Technology

Suggested Citation

  • Francisco Peñaranda & Enrique Sentana, 2015. "A Unifying Approach to the Empirical Evaluation of Asset Pricing Models," The Review of Economics and Statistics, MIT Press, vol. 97(2), pages 412-435, May.
    • Handle: RePEc:tpr:restat:v:97:y:2015:i:2:p:412-435
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    Cited by:

    1. Gospodinov, Nikolay & Kan, Raymond & Robotti, Cesare, 2019. "Too good to be true? Fallacies in evaluating risk factor models," Journal of Financial Economics, Elsevier, vol. 132(2), pages 451-471.
    2. Laurinaityte, Nora & Meinerding, Christoph & Schlag, Christian & Thimme, Julian, 2024. "GMM weighting matrices in cross-sectional asset pricing tests," Journal of Banking & Finance, Elsevier, vol. 162(C).
    3. Nikolay Gospodinov & Raymond Kan & Cesare Robotti, 2018. "Asymptotic variance approximations for invariant estimators in uncertain asset-pricing models," Econometric Reviews, Taylor & Francis Journals, vol. 37(7), pages 695-718, August.
    4. Peñaranda, Francisco & Sentana, Enrique, 2016. "Duality in mean-variance frontiers with conditioning information," Journal of Empirical Finance, Elsevier, vol. 38(PB), pages 762-785.
    5. Frank Windmeijer, 2018. "Testing Over- and Underidentification in Linear Models, with Applications to Dynamic Panel Data and Asset-Pricing Models," Bristol Economics Discussion Papers 18/696, School of Economics, University of Bristol, UK.
    6. Sentana, Enrique, 2024. "Finite underidentification," Journal of Econometrics, Elsevier, vol. 240(1).
    7. Peñaranda, Francisco & Sentana, Enrique, 2012. "Spanning tests in return and stochastic discount factor mean–variance frontiers: A unifying approach," Journal of Econometrics, Elsevier, vol. 170(2), pages 303-324.
    8. Khalaf, Lynda & Schaller, Huntley, 2016. "Identification and inference in two-pass asset pricing models," Journal of Economic Dynamics and Control, Elsevier, vol. 70(C), pages 165-177.
    9. Manresa, Elena & Peñaranda, Francisco & Sentana, Enrique, 2023. "Empirical evaluation of overspecified asset pricing models," Journal of Financial Economics, Elsevier, vol. 147(2), pages 338-351.
    10. Massimo Guidolin & Martin Lozano & Juan Arismendi Zambrano, "undated". "Multifactor Empirical Asset Pricing Under Higher-Order Moment Variations," Economics Department Working Paper Series n304-20.pdf, Department of Economics, National University of Ireland - Maynooth.
    11. Elena Manresa & Francisco Peñaranda & Enrique Sentana, 2017. "Empirical Evaluation of Overspecified Asset Pricing Models," Working Papers wp2018_1711, CEMFI.
    12. Frank Kleibergen & Lingwei Kong & Zhaoguo Zhan, 2023. "Rejoinder on: Identification Robust Testing of Risk Premia in Finite Samples," Journal of Financial Econometrics, Oxford University Press, vol. 21(2), pages 311-315.
    13. Francisco Peñaranda & Enrique Sentana, 2024. "Portfolio management with big data," Working Papers wp2024_2411, CEMFI.

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    More about this item

    Keywords

    regression; SDF; normalizations; linear factor; pricing models; GMM procedures; excess returns; gross returns; asymptotic approximations;
    All these keywords.

    JEL classification:

    • C00 - Mathematical and Quantitative Methods - - General - - - General
    • C50 - Mathematical and Quantitative Methods - - Econometric Modeling - - - General
    • B00 - Schools of Economic Thought and Methodology - - General - - - History of Economic Thought, Methodology, and Heterodox Approaches

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