Equity premium prediction and optimal portfolio decision with Bagging |
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| Affiliation: | 1. Department of Financial Engineering and Actuarial Mathematics, Soochow University, Taipei 10048, Taiwan;2. College of Management, Yuan Ze University, Taoyuan 32003, Taiwan;3. Department of Quantitative Finance, National Tsing Hua University, Hsinchu 30010, Taiwan;1. School of Securities and Futures, Southwestern University of Finance and Economics, China;2. Department of Finance, National Central University, No. 300, Jhongda Rd., Jhongli City, Taoyuan County 32001, Taiwan, ROC;3. School of Securities and Futures, Southwestern University of Finance and Economics, No. 55, Guanghuacun Street, Chengdu, Sichuan 610074, China;1. Department of Accounting, National Yunlin University of Science & Technology, 123 University Road, Section 3, Douliou, Yunlin 64002, ROC Taiwan;2. Department of Accounting and Information Systems, Asia University, 500, Lioufeng Rd., Wufeng, Taichung 41354, ROC Taiwan;3. Executive Officer of Budget Section, Department of Accounting K-12 Education Administration, Ministry of Education, Taiwan, ROC;1. Western Kentucky University, Bowling Green KY42101, USA;2. Utah Valley University, Orem, UT 84058, USA;3. Indiana Business Research Center, Indiana University, Bloomington, IN 47405, USA |
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| Abstract: | We propose using the statistical method of Bagging to forecast the equity premium out-of-sample for multivariate regression models. Bagging allows for the flexible and efficient extraction of valuable informational content from a large set of predictors, leading to statistically and economically significant gains relative to not only the historical mean, but also other soft-threshold methods such as forecast combinations and shrinkage estimators in our empirical results. Furthermore, we find that the source of economic gains for Bagging primarily comes from the fact that it encourages the investor to actively manage portfolio by flexibly utilizing short selling or leveraging to better time the market following correctly prognosticated trends. However, other strategies such as forecast combinations keep the equity shares nearly fixed regardless of the predicted market prospect. |
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| Keywords: | Equity premium Optimal portfolio Bagging Soft threshold |
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