65 Pages Posted: 21 May 2019
Date Written: May 9, 2019
Rational and behavioral asset pricing theories offer conflicting interpretations of the covariance structure of asset returns. Return comovement beyond what prespecified empirical factor models can explain is often interpreted in favor of frictions or behavioral explanations. However, we show that randomly grouped assets exhibit "excess" comovement that is ubiquitous and indistinguishable from the comovement of economically motivated groupings advanced in the literature. Our finding is consistent with the presence of a latent factor that could be derived from multiple sources of systematic variation, including rational sources. We propose new statistical tests that account for latent factors when detecting excess comovement.
Keywords: excess comovement, fundamentals, rational markets, behavioral finance, stock returns, factor models
JEL Classification: G11, G12, G14, G40
Suggested Citation: Suggested Citation