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Model Comparison with Sharpe Ratios

47 Pages Posted: 4 Aug 2017  

Francisco Barillas

Emory University - Goizueta Business School

Raymond Kan

University of Toronto - Rotman School of Management

Cesare Robotti

Imperial College Business School

Jay A. Shanken

Emory University - Goizueta Business School; National Bureau of Economic Research (NBER)

Date Written: August 3, 2017

Abstract

We show how to conduct asymptotically valid tests of model comparison when the extent of model mispricing is gauged by the squared Sharpe ratio improvement measure. This is equivalent to ranking models on their squared Sharpe ratios. Mimicking portfolios can be substituted for any non-traded model factors and estimation error in the portfolio weights is taken into account in the statistical inference. A parsimonious four-factor model that supplements the market with cash profitability and momentum factors, along with a monthly-updated version of the usual value spread, emerges as the dominant model over the period 1972-2015.

JEL Classification: G10, G12

Suggested Citation

Barillas, Francisco and Kan, Raymond and Robotti, Cesare and Shanken, Jay A., Model Comparison with Sharpe Ratios (August 3, 2017). Rotman School of Management Working Paper No. 3013149. Available at SSRN: https://ssrn.com/abstract=3013149

Francisco Barillas (Contact Author)

Emory University - Goizueta Business School ( email )

1300 Clifton Road
Atlanta, GA 30322-2722
United States

Raymond Kan

University of Toronto - Rotman School of Management ( email )

105 St. George Street
Toronto, Ontario M5S 3E6 M5S1S4
Canada
416-978-4291 (Phone)
416-971-3048 (Fax)

Cesare Robotti

Imperial College Business School ( email )

South Kensington Campus
Exhibition Road
London SW7 2AZ, SW7 2AZ
United Kingdom

Jay A. Shanken

Emory University - Goizueta Business School ( email )

1300 Clifton Road
Atlanta, GA 30322-2722
United States
404-727-4772 (Phone)

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

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