Portfolio Inefficiency and the Cross-Section of Expected Returns
affiliation not provided to SSRN
Robert F. Stambaugh
University of Pennsylvania - The Wharton School; National Bureau of Economic Research (NBER)
NBER Working Paper No. w4702
A plot of expected returns versus betas obeys virtually no relation to an inefficient index portfolio's mean-variance location. If the index portfolio is inefficient, then the coefficients and R- squared from an ordinary-least-squares regression of expected returns on betas can equal essentially any desired values. The mean-variance location of the index does determine the properties of a cross- sectional mean-beta relation fitted by generalized least squares (GLS). As the index portfolio moves closer to exact efficiency, the GLS mean-beta relation moves closer to the exact linear relation corresponding to an efficient portfolio with the same variance. The goodness-of-fit for the GLS regression is the index portfolio's squared relative efficiency, which measures closeness to efficiency in mean-variance space.
Number of Pages in PDF File: 26working papers series
Date posted: November 8, 2011
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