Testing Conditional Factor Models
Columbia Business School - Finance and Economics; National Bureau of Economic Research (NBER)
University College London; University of Aarhus - CREATES; Cemmap (Centre for Microdata Methods and Practice)
March 4, 2009
AFA 2010 Atlanta Meetings Paper
We develop a new methodology for estimating time-varying factor loadings and conditional alphas based on nonparametric techniques. We test whether long-run alphas, or averages of conditional alphas over the sample, are equal to zero and derive test statistics for the constancy of factor loadings. The tests can be performed for a single asset or jointly across portfolios. The traditional Gibbons, Ross and Shanken (1989) test arises as a special case when there is no time variation in the factor loadings. As applications of the methodology, we estimate conditional CAPM and Fama and French (1993) models on book-to-market and momentum decile portfolios. We reject the null that long-run alphas are equal to zero even though there is substantial variation in the conditional factor loadings of these portfolios.
Number of Pages in PDF File: 47
Keywords: Nonparametric estimator, time-varying beta, conditional alpha, book-to-market premium, momentum effect
JEL Classification: C14, C22, G12working papers series
Date posted: March 4, 2009
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