Bayesian Solutions for the Factor Zoo: We Just Ran Two Quadrillion Models

61 Pages Posted: 4 Dec 2019 Last revised: 8 Jul 2020

See all articles by Svetlana Bryzgalova

Svetlana Bryzgalova

London Business School - Department of Finance

Jiantao Huang

London School of Economics & Political Science (LSE) - Department of Finance

Christian Julliard

London School of Economics & Political Science (LSE) - Department of Finance; Centre for Economic Policy Research (CEPR)

Date Written: November 18, 2019

Abstract

We propose a novel framework for analyzing linear asset pricing models: simple, robust, and applicable to high dimensional problems. For a (potentially misspecified) standalone model, it provides reliable risk premia estimates of both tradable and non-tradable factors, and detects those weakly identified. For competing factors and (possibly non-nested) models, the method automatically selects the best specification – if a dominant one exists – or provides a model averaging, if there is no clear winner given the data. We analyze 2.25 quadrillion models generated by a large set of existing factors, and gain novel insights on the empirical drivers of asset returns.

Keywords: Cross-Sectional Asset Pricing, Factor Models, Model Evaluation, Multiple Testing, Data Mining, P-Hacking, Bayesian Methods, shrinkage, SDF.

JEL Classification: G12, C11, C12, C52, C58

Suggested Citation

Bryzgalova, Svetlana and Huang, Jiantao and Julliard, Christian, Bayesian Solutions for the Factor Zoo: We Just Ran Two Quadrillion Models (November 18, 2019). Available at SSRN: https://ssrn.com/abstract=3481736 or http://dx.doi.org/10.2139/ssrn.3481736

Svetlana Bryzgalova

London Business School - Department of Finance ( email )

Sussex Place
Regent's Park
London NW1 4SA
United Kingdom

Jiantao Huang

London School of Economics & Political Science (LSE) - Department of Finance ( email )

Houghton St, Holborn
London, WC2A 2AE
Great Britain

Christian Julliard (Contact Author)

London School of Economics & Political Science (LSE) - Department of Finance ( email )

United Kingdom

Centre for Economic Policy Research (CEPR) ( email )

London
United Kingdom

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