Are advanced emerging market stock returns predictable? A regime-switching forecast combination approach

Afsaneh Bahrami, Abul Shamsuddin () and Katherine Uylangco

Pacific-Basin Finance Journal, 2019, vol. 55, issue C, 142-160

Abstract: Advanced emerging markets (AEMs) transitioning into developed markets experience far-reaching economic and institutional changes. Developing predictive models of stock returns in AEMs involves challenges of parameter instability and model uncertainty. This study uses Markov regime switching (MRS) models to address parameter instability and a combination forecast approach to mitigate model uncertainty. We find that the MRS model better captures the effects of predictor variables on returns compared to models with time-invariant parameters and produces statistically and economically significant return forecasts. Combining return forecasts from different MRS models further improves return predictability in AEMs. Consequently, employing MRS models in conjunction with the combination forecast approach goes a long way to improving forecast accuracy in AEMs.

Keywords: Return predictability; Markov regime-switching; Forecast combinations; Advanced emerging markets (search for similar items in EconPapers)
JEL-codes: F31 G12 G14 G15 G17 (search for similar items in EconPapers)
Date: 2019
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Citations: View citations in EconPapers (5)

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Persistent link: https://EconPapers.repec.org/RePEc:eee:pacfin:v:55:y:2019:i:c:p:142-160

DOI: 10.1016/j.pacfin.2019.02.003

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