Changing Expected Returns Can Induce Spurious Components in Autocorrelations

62 Pages Posted: 18 Aug 2021 Last revised: 15 Aug 2022

See all articles by Kuntara Pukthuanthong

Kuntara Pukthuanthong

University of Missouri, Columbia

Richard Roll

California Institute of Technology

Avanidhar Subrahmanyam

University of California, Los Angeles (UCLA) - Finance Area; Financial Research Network (FIRN)

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Date Written: November 14, 2021

Abstract

Movements in expected returns (ER) can cause a bias in measured autocorrelations, and the resulting spurious component is positive for infrequent regime shifts. We demonstrate this point analytically and investigate its empirical prevalence. In a key contribution, we use shifts in ex ante ER estimates from options prices, factor models, and analysts’ forecasts to investigate our premise. As predicted, absolute shifts in ER are indeed strongly and positively related to observed autocorrelations. We also show that shifting ER implies biased cross-autocorrelation, and find supporting evidence for this phenomenon as well.

Keywords: Efficient Markets, Serial Correlation, Spurious Results

JEL Classification: G10, G11, G12, G14

Suggested Citation

Pukthuanthong, Kuntara and Roll, Richard W. and Subrahmanyam, Avanidhar, Changing Expected Returns Can Induce Spurious Components in Autocorrelations (November 14, 2021). Available at SSRN: https://ssrn.com/abstract=3906157 or http://dx.doi.org/10.2139/ssrn.3906157

Kuntara Pukthuanthong (Contact Author)

University of Missouri, Columbia ( email )

Robert J. Trulaske, Sr. College of Business
403 Cornell Hall
Columbia, MO 65211
United States
6198076124 (Phone)

HOME PAGE: https://www.kuntara.net/

Richard W. Roll

California Institute of Technology ( email )

1200 East California Blvd
Mail Code: 228-77
Pasadena, CA 91125
United States
626-395-3890 (Phone)
310-836-3532 (Fax)

Avanidhar Subrahmanyam

University of California, Los Angeles (UCLA) - Finance Area ( email )

Los Angeles, CA 90095-1481
United States
310-825-5355 (Phone)
310-206-5455 (Fax)

Financial Research Network (FIRN)

C/- University of Queensland Business School
St Lucia, 4071 Brisbane
Queensland
Australia

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