Mimicking Portfolios, Economic Risk Premia, and Tests of Multi-Beta Models

FRB of Atlanta Working Paper No. 2005-4

56 Pages Posted: 15 Jun 2005

See all articles by Cesare Robotti

Cesare Robotti

Warwick Business School

Pierluigi Balduzzi

Boston College - Carroll School of Management

Multiple version iconThere are 2 versions of this paper

Date Written: February 2005

Abstract

This paper considers two alternative formulations of the linear factor model (LFM) with nontraded factors. The first formulation is the traditional LFM, where the estimation of risk premia and alphas is performed by means of a cross-sectional regression of average returns on betas. The second formulation (LFM*) replaces the factors with their projections on the span of excess returns. This formulation requires only time-series regressions for the estimation of risk premia and alphas. We compare the theoretical properties of the two approaches and study the small-sample properties of estimates and test statistics. Our results show that when estimating risk premia and testing multi-beta models, the LFM* formulation should be considered in addition to, or even instead of, the more traditional LFM formulation.

Keywords: mimicking portfolios, economic risk premia, multi-beta models

JEL Classification: G12

Suggested Citation

Robotti, Cesare and Balduzzi, Pierluigi, Mimicking Portfolios, Economic Risk Premia, and Tests of Multi-Beta Models (February 2005). FRB of Atlanta Working Paper No. 2005-4, Available at SSRN: https://ssrn.com/abstract=701381 or http://dx.doi.org/10.2139/ssrn.701381

Cesare Robotti (Contact Author)

Warwick Business School ( email )

West Midlands, CV4 7AL
United Kingdom

Pierluigi Balduzzi

Boston College - Carroll School of Management ( email )

Department of Finance
140 Commonwealth Avenue - Fulton Hall 438
Chestnut Hill, MA 02467
United States
617-552-3976 (Phone)
617-552-0431 (Fax)

HOME PAGE: http://www.bc.edu/bc_org/avp/csom/faculty/

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