Testing Linear Factor Models on Individual Stocks Using the Average F Test

European Journal of Finance, Forthcoming

41 Pages Posted: 18 Nov 2004 Last revised: 29 Nov 2013

See all articles by Soosung Hwang

Soosung Hwang

Sungkyunkwan University - Department of Economics

Stephen E. Satchell

University of Cambridge - Faculty of Economics and Politics

Date Written: October 10, 2012

Abstract

We propose the average F statistic for testing linear asset pricing models. The average pricing error, captured in the the statistic, is of more interest than the ex post maximum pricing error of the multivariate F statistic that is associated with extreme long and short positions and excessively sensitive to small perturbations in the estimates of asset means and covariances. The average F test can be applied to thousands of individual stocks and thus is free from the information loss or the data snooping biases from grouping. This test is robust to ellipticity, and more importantly, our simulation and bootstrapping results show that the power of average F test continues to increase as the number of stocks increases. Empirical tests using individual stocks from 1967 to 2006 demonstrate that the popular four factor model (i.e. Fama-French three factors and momentum) is rejected two sub-periods from from 1967 to 1971 and from 1982 to 1986.

Keywords: F Test, Linear Factor Model, Average F Test.

JEL Classification: C1, G1

Suggested Citation

Hwang, Soosung and Satchell, Stephen E., Testing Linear Factor Models on Individual Stocks Using the Average F Test (October 10, 2012). European Journal of Finance, Forthcoming. Available at SSRN: https://ssrn.com/abstract=620461 or http://dx.doi.org/10.2139/ssrn.620461

Soosung Hwang (Contact Author)

Sungkyunkwan University - Department of Economics ( email )

25-2 Sungkyunkwan-ro
Jongno-Gu
110-745 Seoul
+82 (0)2 760 0489 (Phone)
+82 (0)2 744 5717 (Fax)

Stephen E. Satchell

University of Cambridge - Faculty of Economics and Politics ( email )

Austin Robinson Building
Sidgwick Avenue
Cambridge, CB3 9DD
United Kingdom
44 (0)1223 335213 (Phone)
44 (0)1223 335475 (Fax)

HOME PAGE: http://www.econ.cam.ac.uk/faculty/satchell/index.h

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