A Note on Nonsense Predictive Regressions Arising from Structural Breaks

9 Pages Posted: 3 Aug 2006

See all articles by Alexander W. Butler

Alexander W. Butler

Rice University - Jesse H. Jones Graduate School of Business

Gustavo Grullon

Rice University - Jesse H. Jones Graduate School of Business

James Weston

Rice University - Jesse H. Jones Graduate School of Business

Date Written: July 31, 2006

Abstract

In this short note we respond to the argument advanced by Baker, Taliaferro, and Wurgler (2006) that our criticism of the market timing literature is simply a reinterpretation of Stambaugh's (1999) small sample bias. We show analytically how structural breaks in an economic time-series may result in spurious, or nonsense, predictive regressions, whether or not there is any small-sample bias at play. We also provide a simple example showing that the magnitude of this bias could explain the predictive power of certain variables.

Keywords: Market Timing, Spurious Regressions

JEL Classification: G14, G32

Suggested Citation

Butler, Alexander W. and Grullon, Gustavo and Weston, James Peter, A Note on Nonsense Predictive Regressions Arising from Structural Breaks (July 31, 2006). Available at SSRN: https://ssrn.com/abstract=921420 or http://dx.doi.org/10.2139/ssrn.921420

Alexander W. Butler

Rice University - Jesse H. Jones Graduate School of Business ( email )

MS 531
Houston, TX 77005
United States
713-348-6341 (Phone)

HOME PAGE: http://www.owlnet.rice.edu/~awbutler/

Gustavo Grullon (Contact Author)

Rice University - Jesse H. Jones Graduate School of Business ( email )

P.O. Box 2932
Houston, TX 77252-2932
United States
(713) 348-6138 (Phone)
(713) 348-6331 (Fax)

HOME PAGE: http://www.ruf.rice.edu/~grullon/

James Peter Weston

Rice University - Jesse H. Jones Graduate School of Business ( email )

6100 South Main Street
P.O. Box 1892
Houston, TX 77005
United States
713-348-4480 (Phone)
713-348-6331 (Fax)

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