41 Pages Posted: 5 Dec 2012 Last revised: 23 Sep 2017
Date Written: May 28, 2017
We introduce a new stylized fact: the hump-shaped behavior of slopes and coefficients of determination as a function of the aggregation horizon when running (forward/backward) predictive regressions of future excess market returns onto past economic uncertainty (as proxied by market variance, consumption variance, or economic policy uncertainty). To justify this finding formally, we propose a novel modeling framework in which predictability is specified as a property of low-frequency components of both excess market returns and economic uncertainty. We dub this property scale-specific predictability. We show that classical predictive systems imply restricted forms of scale-specific predictability. We conclude that for certain predictors, like economic uncertainty, the restrictions imposed by classical predictive systems may be excessively strong.
Keywords: long run, predictability, aggregation, risk-return trade-off
JEL Classification: C51, E32, G12, G17
Suggested Citation: Suggested Citation
Bandi, Federico M. and Perron, Benoit and Tamoni, Andrea and Tebaldi, Claudio, The Scale of Predictability (May 28, 2017). Available at SSRN: https://ssrn.com/abstract=2184260 or http://dx.doi.org/10.2139/ssrn.2184260
By Andrew Ang