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‘How is the Stock Market Doing?’ Using Absence of Arbitrage to Measure Stock Market Performance

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  • Poitras, Geoffrey
  • Heaney, John

Abstract

This paper provides a methodology for measuring stock market performance based on the restrictions provided by absence of arbitrage in security prices. Under the null hypothesis that the aggregate cumulative dividend-price process follows a geometric Brownian motion, a closed form related to the inter-temporal marginal rate of substitution is derived and empirically evaluated. The stock market performance measure is based on the level of risk adjustment required to compare the value of the stock index at the starting point with the cumulative interest rate deflated value at any given point in the time series. The paper concludes with empirical tests for the martingale property of the performance measure.

Suggested Citation

  • Poitras, Geoffrey & Heaney, John, 2008. "‘How is the Stock Market Doing?’ Using Absence of Arbitrage to Measure Stock Market Performance," MPRA Paper 114056, University Library of Munich, Germany.
    • Handle: RePEc:pra:mprapa:114056
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    References listed on IDEAS

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    More about this item

    Keywords

    Absence of arbitrage; Rational security price; S&P 500; Detrending;
    All these keywords.

    JEL classification:

    • C1 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods and Methodology: General
    • C4 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods: Special Topics
    • C5 - Mathematical and Quantitative Methods - - Econometric Modeling
    • C53 - Mathematical and Quantitative Methods - - Econometric Modeling - - - Forecasting and Prediction Models; Simulation Methods
    • G17 - Financial Economics - - General Financial Markets - - - Financial Forecasting and Simulation

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