Market proxies as factors in linear asset pricing models: Still living with the roll critique |
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| Affiliation: | 1. Department of Mechanical and Industrial Engineering, Qatar University, Doha, Qatar;2. Department of Mathematics, Faculty of Science, The Hashemite University, Jordan;3. Department of Mathematics and Statistics, Jordan University of Science and Technology, Irbid, Jordan;4. Department of Engineering Systems and Management, Masdar Institute of Science and Technology, Abu Dhabi, United Arab Emirates;1. Department of Finance, School of Business, University at Albany, State University of New York, Albany, NY, United States;2. Bank of Israel, Israel;3. Bar-Ilan University, Israel;1. Goethe University Frankfurt, Germany;2. Banco de Portugal, Portugal;3. Universidade Nova de Lisboa, Portugal;4. CEFAGE, Portugal;5. University of Alicante, Spain;1. Department of Economics, Athens University of Economics and Business, Athens 104 34, Greece;2. Department of Economics and Finance, Queen Mary University of London, Mile End Road, London E1 4NS, UK;3. Department of Economics, Athens University of Economics and Business, Athens 104 34, Greece |
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| Abstract: | A new model misspecification measure for linear asset pricing models is proposed for the case where misspecification maps to latency of one of the pricing factors; in this case, the market return. This measure is suited both for testing models that include the market return as a pricing factor in a traditional sense (i.e., whether the chosen model does or does not price a collection of risky assets) and ranking those models (i.e., determining which model performs best). The proposed measure is used in pricing portfolios reflecting the size, value, and momentum premia. The conditional CAPM of Jagannathan and Wang (1996) is found to best the performance of both the simple CAPM and the ICAPM of Petkova (2006). Moreover, it is discovered that winner stocks in a momentum portfolio may have higher market betas than loser stocks. |
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