The "Out of Sample" Performance of Long-Run Risk Models

58 Pages Posted: 20 Feb 2012 Last revised: 13 Mar 2012

See all articles by Wayne E. Ferson

Wayne E. Ferson

University of Southern California; National Bureau of Economic Research (NBER)

Suresh Nallareddy

Duke University - Fuqua School of Business

Biqin Xie

Pennsylvania State University

Date Written: February 2012

Abstract

This paper studies the ability of long-run risk models to explain out-of-sample asset returns during 1931-2009. The long-run risk models perform relatively well on the momentum effect. A cointegrated version of the model outperforms the classical, stationary version. Both the long-run and the short run consumption shocks in the models are empirically important for the models' performance. The models' average pricing errors are especially small in the decades from the 1950s to the 1990s. When we restrict the risk premiums to identify structural parameters, this results in larger average pricing errors but often smaller error variances. The mean squared errors are not substantially better than those of the classical CAPM, except for Momentum.

Suggested Citation

Ferson, Wayne E. and Nallareddy, Suresh and Xie, Biqin, The "Out of Sample" Performance of Long-Run Risk Models (February 2012). NBER Working Paper No. w17848. Available at SSRN: https://ssrn.com/abstract=2007841

Wayne E. Ferson (Contact Author)

University of Southern California ( email )

2250 Alcazar Street
Los Angeles, CA 90089
United States

HOME PAGE: http://www-rcf.usc.edu/~ferson/

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
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Suresh Nallareddy

Duke University - Fuqua School of Business ( email )

Box 90120
Durham, NC 27708-0120
United States

Biqin Xie

Pennsylvania State University ( email )

University Park
State College, PA 16802
United States

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