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An Asymptotic Theory for Estimating Beta‐Pricing Models Using Cross‐Sectional Regression

An Asymptotic Theory for Estimating Beta‐Pricing Models Using Cross‐Sectional Regression ABSTRACT Without the assumption of conditional homoskedasticity, a general asymptotic distribution theory for the two‐stage cross‐sectional regression method shows that the standard errors produced by the Fama–MacBeth procedure do not necessarily overstate the precision of the risk premium estimates. When factors are misspecified, estimators for risk premiums can be biased, and the t‐value of a premium may converge to infinity in probability even when the true premium is zero. However, when a beta‐pricing model is misspecified, the t‐values for firm characteristics generally converge to infinity in probability, which supports the use of firm characteristics in cross‐sectional regressions for detecting model misspecification. http://www.deepdyve.com/assets/images/DeepDyve-Logo-lg.png The Journal of Finance Wiley

An Asymptotic Theory for Estimating Beta‐Pricing Models Using Cross‐Sectional Regression

The Journal of Finance , Volume 53 (4) – Aug 1, 1998

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References (38)

Publisher
Wiley
Copyright
© American Finance Association
ISSN
0022-1082
eISSN
1540-6261
DOI
10.1111/0022-1082.00053
Publisher site
See Article on Publisher Site

Abstract

ABSTRACT Without the assumption of conditional homoskedasticity, a general asymptotic distribution theory for the two‐stage cross‐sectional regression method shows that the standard errors produced by the Fama–MacBeth procedure do not necessarily overstate the precision of the risk premium estimates. When factors are misspecified, estimators for risk premiums can be biased, and the t‐value of a premium may converge to infinity in probability even when the true premium is zero. However, when a beta‐pricing model is misspecified, the t‐values for firm characteristics generally converge to infinity in probability, which supports the use of firm characteristics in cross‐sectional regressions for detecting model misspecification.

Journal

The Journal of FinanceWiley

Published: Aug 1, 1998

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