Spanning analysis of stock market anomalies under Prospect Stochastic Dominance
75 Pages Posted: 9 Apr 2020
Date Written: April 6, 2020
We develop and implement methods for determining whether introducing new securities or relaxing investment constraints improves the investment opportunity set for prospect investors. We formulate a new testing procedure for prospect spanning for two nested portfolio sets based on subsampling and Linear Programming. In an application, we use the prospect spanning framework to evaluate whether well-known anomalies are spanned by standard factors. We find that of the strategies considered, many expand the opportunity set of the prospect type investors, thus have real economic value for them. In-sample and out-of-sample results prove remarkably consistent in identifying genuine anomalies for prospect investors.
Keywords: Nonparametric test, prospect stochastic dominance efficiency, prospect spanning, market anomaly, Linear Programming.
JEL Classification: C12, C14, C44, C58, D81, G11, G40
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