Empirics of Financial Markets

Professor: Alexei Goriaev ()

Assistant: Alexander Gerko ()

Summary

In this course, we consider applications of econometric techniques to the analysis of financial markets, with a special emphasis to the interaction of economic theories, econometric techniques, and empirical results. First, we discuss empirical tests of market efficiency, analyzing the predictability of asset returns and the speed of stock price adjustment in response to such economic events as share repurchase or dividend announcement. Then, we study the possible applications and validity of the CAPM and multi-factor asset pricing models, with particular attention to the return anomalies (e.g., size and book-to-market effects) and the equity premium puzzle.Finally, we discuss how to evaluate portfolio performance, using the example of mutual funds. In particular, we analyze performance persistence, dynamic strategies, and impact of the survivorship bias.Investment Theory is a prerequisite for this course.

The course grade will be based on an individually-exercised empirical project (50%) and a written exam (50%). The topic of the project should be related to the course and approved by the lecturer (see the list of suggested topics below).

General references

[1] is the main textbook for the course, while [2] is more advanced (PhD level). [3] and [4] are basic readings on the tests for market efficiency, while [5] is a good source on performance evaluation. Chapter 3 of [6] provides an excellent survey of the main concepts discussed in the course. During most of the course, the stress will be made on the articles. The required articles will be distributed in the class, while supplementary ones will be made available at the website

  1. Campbell, John W., Lo, Andrew W., and A. Craig MacKinlay, PrincetonUniversity Press, The Econometrics of Financial Markets.
  2. Cochrane, John,PrincetonUniversity Press, Asset Pricing.
  3. Copeland, Thomas E., and J. Fred Weston, Addison Wesley, 1992, Financial Theory and Corporate Policy (third edition).
  4. Cuthbertson, Keith, John Wiley & Sons, 1996, Quantitative Financial Economics.
  5. Haugen, Robert A., Prentice Hall, 2001, Modern Investment Theory (fifth edition).
  6. Megginson, William L., Addison & Wiley, 2001, Corporate Finance Theory.

Course topics and selected readings

  1. Market microstructure effects: nonsynchronous trading and bid-ask spread

Sources: [1], ch. 3.

  1. Empirical tests of market efficiency:tests for predictability of asset returnsand tests for rapid price adjustment (event studies)

Sources: [1], ch. 2, 4; [2], ch. 20; [3],ch. 10-11; [4], ch. 5-6; [5],ch. 24-25; [6], 3.6.

  1. Empirical tests of present value models: volatility and regression tests, rational bubbles

Sources: [1], ch. 7; [4], sec. 6.2, ch. 7; [6], 3.6.5.

  1. Empirical tests of mean-variance efficiency (CAPM and APT): asset pricing anomalies and choice of factors in multi-factor asset pricing models

Sources: [1], ch. 5-6; [2], ch. 12, 20; [3], ch. 7; [4], ch. 3; [5],ch. 9-10; [6], 3.4-3.5.

  1. Performance evaluation: mean-variance spanning, unconditional vs conditional and return-based vs portfolio-based approaches to mutual fundperformance evaluation

Sources: [5],ch. 11-12; [6], 3.6.4.

Suggested project topics

  1. Market microstructure effects in modeling Russian stock returns
  1. Nonsynchronous trading
  2. Bid-ask spread
  1. Predictability of Russian stock returns
  1. Industry indexes
  2. Blue chips
  1. The speed of stock price reaction to corporate news in Russia
  1. Announcement of dividends
  2. Announcement of the change in company credit rating
  1. The reactionof Russian stock market to the upgrade of Russia’s credit rating by Moody’s: a case study
  2. Comparative dynamics of returns on common and preferred stocks of the same company
  3. Comparative dynamics of returns on Russian stocks and their ADR’s (GDR’s)
  4. Testing the validity of the CAPM at the Russian stock market
  5. Detection of the periodically collapsing bubbles in the Russian stock market
  1. Using momentum threshold autoregression tests
  2. Using Markov switching unit root tests
  1. Impact of macroeconomic factors (e.g., exchange rate, inflation, oil price, and money liquidity) on Russian stock returns
  2. Impact of company characteristics (e.g., market capitalization, liquidity, leverage, corporate governance, and past performance) on Russian stock returns
  3. Finding the optimal portfolio of Russian assets
  1. Optimal mix of stocks and bonds
  2. Optimal stock portfolio of industry indexes
  3. Optimal stock portfolio of blue chips
  4. Optimal stock portfolio including RTS-2 stocks
  1. Attractiveness of foreign stock markets for Russian investors
  1. On the industry level
  2. On the country level
  1. Evaluating performance of Russian stockfunds (PIFs)
  1. On the basis of factor models
  2. Using mean-variance spanning methodology
  1. Evaluating performance of Russian bond funds (PIFs)
  1. On the basis of factor models
  2. Using mean-variance spanning methodology
  1. Evaluating performance of Russian pension funds

1