Bayesian Inference and Portfolio Efficiency
Shmuel Kandel (deceased)
Robert E. McCulloch
University of Chicago - Booth School of Business
Robert F. Stambaugh
University of Pennsylvania - The Wharton School; National Bureau of Economic Research (NBER)
REVIEW OF FINANCIAL STUDIES, Volume 8 Issue 1
A Bayesian approach is used to investigate a sample's information about a portfolio's degree of inefficiency. With standard diffuse priors, posterior distributions for measures of portfolio ineffciency can concentrate well away from values consistent with efficiency, even when the port- folio is exactly efficient in the sample. The data indicate that the NYSE-AMEX market portfolio is rather inefficient in the presence of a riskless asset, although this conclusion is justified only after an analysis using informative priors. Including a riskless asset significantly reduces any sample's ability to produce posterior distributions supporting small degrees of inefficiency.
JEL Classification: G11, G12Accepted Paper Series
Date posted: October 26, 1999
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