The optimal use of return predictability : an empirical study

In this paper we study the economic value and statistical significance of asset return predictability, based on a wide range of commonly used predictive variables. We assess the performance of dynamic, unconditionally efficient strategies, first studied by Hansen and Richard (1987) and Ferson and Siegel (2001), using a test that has both an intuitive economic interpretation and known statistical properties. We find that using the lagged term spread, credit spread, and inflation significantly improves the risk-return trade-off. Our strategies consistently outperform efficient buy-and-hold strategies, both in and out of sample, and they also incur lower transactions costs than traditional conditionally efficient strategies

Consumption Risk and the Cross-Section of Government Bond Returns

Acknowledgments We are grateful to the anonymous reviewers for their constructive suggestions which helped us to improve the manuscript. We would also like to thank David Babbel, Angela Black, Jordi Caballe, Laurence Copeland, Antonio Diez de los Rios, Kabir Dutta, Javier Gil-Bazo, Lynda Khalaf, Chung-Ming Kuan, Patrick Minford, Francisco Penaranda, Jesper Rangvid, Enrique Sentana and seminar participants at the Universities of Aarhus, Aberdeen, Autonoma de Barcelona, Cardiff, Carlos III de Madrid, Essex, National Central University (Taiwan), National Taiwan University, Pompeu Fabra, Reading and the participants at the 2009 Warsaw International Economic Meeting, 2009 Econometric Society European Meeting Barcelona, 2009 ASSET Istanbul, XVII Foro Finanzas Madrid, XXXIV SAEe Valencia, 5th PhD Meeting of RES London for helpful discussions and comments.Peer reviewedPostprintPostprin

Portfolio efficiency and discount factor bounds with conditioning information: a unified approach

In this paper, we develop a unified framework for the study of mean-variance efficiency and discount factor bounds in the presence of conditioning information. We extend the framework of Hansen and Richard (1987) to obtain new characterizations of the efficient portfolio frontier and variance bounds on discount factors, as functions of the conditioning information. We introduce a covariance-orthogonal representation of the asset return space, which allows us to derive several new results, and provide a portfolio-based interpretation of existing results. Our analysis is inspired by, and extends the recent work of Ferson and Siegel (2001,2002), and Bekaert and Liu (2004). Our results have several important applications in empirical asset pricing, such as the construction of portfolio-based tests of asset pricing models, conditional measures of portfolio performance, and tests of return predictability

Understanding Portfolio Efficiency with Conditioning Information *

Abstract I develop two new types of portfolio efficiency when returns are predictable. The first type maximizes the unconditional Sharpe ratio of excess returns and differs from unconditional efficiency unless the safe asset return is constant over time. The second type maximizes conditional mean-variance preferences and differs from unconditional efficiency unless, additionally, the maximum conditional Sharpe ratio is constant. Using stock data, I quantify and test their performance differences with respect to unconditionally and fixed-weight efficient returns. I also show the relevance of the two new portfolio strategies to test conditional asset pricing models