This website uses cookies to ensure you have the best experience.

# Stock Asset Returns Are Predictable Part 2

2150 words - 9 pages

5. DATA SOURCES, METHODOLOGY AND VARIABLE CONSTRUCTION

5.1. Return Calculation
There are two ways to calculate stock returns
5.1.1. Continuous Return
This is the percentage return that would be earned by an investor who bought the stock at the end of a particular day/month t-1 and sold it at the end of the following day/month. For day t and stock A, the day return R At is defined as
R At = { In (P At/P A, t-1)}*100
The stock paid a dividend in day t, the total return would be
R At = {In (P At +Divt /P A, t-1)}*100
5.1.2. Discrete Return
An alternative method to calculate stock returns is defined as
R At = {(P At/P A, t-1)-1}*100
5.1.3. Continuous Compounded versus Discrete Returns
Using continuously compounded rate of return, it is assumed that Pt = Pt-1 ert where rt is the rate of return during the period (t-1,t) and where Pt is the price at time t. If r1, r2,….,r12 are the returns for12 months, then the price of the stock at the end of the 12 months will be
P12 = P0 e r1 +r2 +….+r12
This representation of prices and returns allows to assume the average daily or monthly returns is r = (r1, r2,….,r12)/ 12.Since we can assume that the return data for the 12 months represent the distribution of the returns for the coming month, it follows that the continuously compounded return is the appropriate return measure, and not discretely compounded return. (Benninga, 2008)

5.2. TESTS OF RETURN PREDICTABILITY
In this research study, methodology consists of four sections based on information set of return predictability. Information set can be defined as the past history of stock prices, time patterns, market characteristics and firm characteristics .The first section consists of short-term return predictability based on past history of stock prices through non-parametric tests like run test and autocorrelation function (ACF). The second section predicts (makes forecasting) and quantifies return volatility in short-term based on past history of stock prices through a parametric test such as autoregressive integrated moving average (ARIMA) The third section explores the relationship between return predictability and time patterns (holiday effect, day-of-the-week effect and month-of-the-year effect) using ordinary least square (OLS) technique. The last section consists of firm-specific return prediction which explains market characteristics (risk premium) and firm characteristics (size and value premia) employing Capital Asset Pricing Model (CAPM) along with Fama and French three Factor Model (FF-3FM) and Augmented Fama and French three factor model(AFF-3FM) respectively.

 Short-term Return Predictability
Sort-term return predictability includes both non-parametric and parametric approaches to test the weak form of stock market efficiency. In this Study, non-parametric stock market efficiency tests consist of Run test and Autocorrelation Function (Islam, 2005) along with Autoregressive Integrated Moving average (ARIMA) as a parametric test for...

## Find Another Essay On Stock Asset Returns Are Predictable Part 2

### Financial and Monetary Economics Essay

2364 words - 9 pages investment management. The weak form of the EMT: Suggests that all past market prices and data are fully reflected in asset prices. The implication of this is that technical analysis cannot be used. Technical analysis is the search for recurring and predictable patterns in stock prices, it also assumes that stock prices responds slowly to demand and supply factors, which, gives an opportunity for investors to make profit

### Efficient Capital Markets History Essay

1050 words - 4 pages now as; (1) tests for return predictability, (2) event studies, and (3) tests for private information.Fama had reviewed category two and three in the article superficial because the literature about these two categories are clear and straightforward.(2) Event studiesEvent studies have given the cleanest evidence on market-efficiency, especially on daily returns. In addition, the picture is clear, when the information about the event is dated

### Determinants of Conditional Volatility of Fifty Stock Returns and KSE 100 Index

894 words - 4 pages homoskedastic part of the volatility is significant. The results of lag dependent variable are significant indicating that the conditional volatility of stock returns responds dynamically to its own past trend. This leads to general conclusion that the stock prices in Pakistan are influenced by financial and economic indicators included in the study. This also indicates in the long run that the underlying activities depend on the economic

### The Capital Asset Pricing Model

1309 words - 5 pages Analysis, Hoboken: John Wiley & Sons, Inc.. Fama, E. F., and French, K. R., 1992, The Cross-Section of Expected Stock Returns, The Journal of Finance, 47(2), pp. 427-465. Fama, E. F. and French, K. R., 2004, The Capital Asset Pricing Model: Theory and Evidence, Journal of Economic Perspectives, 18(3), pp. 25-46. French, K. R., 1980, Stock Returns and the Weekend Effect, Journal of Financial Economics, 8, pp. 55-69. Gutierrez JR, R. C., and

### The Importance of Proper Asset Allocation

1737 words - 7 pages ) from timing, selection, and fees. In general, about three-quarters of a typical fund’s variation in time-series returns comes from general market movement, with the remaining portion split roughly evenly between the specific asset allocation and active management. In a year like 2008, almost all funds are down, whereas in a year like 2013 practically all funds are up, despite their specific asset allocation or active management activities. In

### The Tests for Market Efficiency

2337 words - 9 pages and G. William Schwert “Asset Returns and Inflation,” Journal of Financial Economics, 5, 55-69. (1977) Fluck, Zsuzsanna, Burton Malkiel and Richard Quandt “The Predictability of Stock Returns: A Cross-Sectional Simulation,” Review of Economics and Statistics, 79, 2, 176-183. (1997) French, Kenneth “Stock Returns and the Weekend Effect,” Journal of Financial Economics, 8, 55-69. (1980) Graham, Benjamin and David L. Dodd, Security

### Risk Management in Stock Valuation and Markets

2705 words - 11 pages price volatility Variance rate per day = 1 /( m-1) * (un-1 – u-)2 Here M = most recent m observations u- = the mean of all day returns (Harper, 2010). Beta of a Stock Beta measures the affectability of stock returns to market returns. Value at risk When biggest loss to a specific investment situation is measured known as value at risk or value risk (Madura, 2011). This method make stockholders aware about the loss, they will encounter (Madura

### The Efficient Market Hypothesis

1836 words - 7 pages that is already embodied in prices, including all publicly available information, are doomed to failure”. (Ross, (2002)) By the start of the twenty-first century, the intelligent authority of the efficient market hypothesis had become far less universal. Numerous financial economists and statisticians began to believe that in stock markets, prices are partially predictable at least. A new sort of economists highlighted psychological and

### Can above-average returns be earned on observing stock market overreaction?

9651 words - 39 pages of efficient markets, Malkiel (1990:186) suggests that "Even a dart-throwing chimpanzee can select a portfolio that performs as well as one carefully selected by the experts". To many people this is inadmissible and therefore most investors try vigorously to beat the stock market. In recent years, a growing and controversial body of research in the area of stock market efficiency has suggested that stock returns are indeed predictable. Such

### Corning

8909 words - 36 pages regulators 1 \$6.3 billion are documented in Exhibit 1 of the case. 2 \$6.7 billion are documented in Exhibit 4 of the case. 3 For example, see Eugene Fama and Kenneth French, "The Cross Section of Expected Stock Returns," Journal of Finance, 1992, for evidence that high book-to-market ratio firms have higher average returns than low book-to-market ratio firms. Also, see the recent data on Ken French's data library: http://mba.tuck.dartmouth.edu/pages

### capital asset pricing model

1150 words - 5 pages Investment Horne, J. C. V. (1980). An Application of the Capital Asset Pricing Model to Divisional Required Returns. Financial Management, 9(1), 14-19 Understanding Risk and Return, the CAPM, and the Fama-French Three-Factor Model. (N.d.). Retrieved from: http://www.portfoliosolutions.com/pdfs/FF_3_Factor_Tucks.pdf Roll, R. (1977). A critique of the Asset Pricing Theory’s test: Part 1: ON past and potential testability of the theory. Journal of Financial Economics, 129-176

## Similar Essays

### Stock Asset Returns Are Predictable Part 1

2232 words - 9 pages or returns. Second of all, the information set in semi-strong form efficiency, contains information available to all market participants. Lastly, in strong form efficiency, the information set consists of all information available to any market participant. Researchable task in this study is whether stock asset returns are predictable, which has been a question of great attention emerged with financial econometrics since the earliest times

### Market Efficiency Essay

2314 words - 9 pages predicted. Pesaran (2003) states that it is often argued that if stock markets are efficient then it should not be possible to predict stock returns. In fact, it is easily seen that stock market returns will be non-predictable only if market efficiency is combined with risk neutrality. On the other hand it is also been concluded that using variance ratio tests long horizon stock market returns can be predicted. Researchers have named a large number

### Predicting Stock Market Return Essay

2028 words - 8 pages consumption, asset holding and current labour income must be asserted in terms of observable variables. But there are certain implications that must be taken into consideration before consumption aggregate wealth ratio can be systematically linked with future asset returns. Implications are (1) aggregate wealth ratio-precisely the human capital component of it is unobservable, (2) the deviation trends are unobservable and have to be estimated

### Stock Market Predictability Essay

1034 words - 4 pages predicting stock returns. One such macroeconomic variable is the Consumption to Wealth ratio. I will now examine how effective this variable is in predicting future stock market returns. The expected excess returns vary with the growths and dips in the business cycle, therefore, they should be predictable at different stages of the cycle. To examine the relationship, we note that aggregate consumption, asset holdings and labour income all share the