Fundamentals and asset price dynamics

Attilio Gardini (), Giuseppe Cavaliere and Michele Costa
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Attilio Gardini: University of Bologna

Statistical Methods & Applications, 2003, vol. 12, issue 2, No 7, 226 pages

Abstract: Abstract. The relation between fundamentals and asset returns is analyzed by means of Markov-switching regression models with time-varying transition probabilities. By referring to the Italian Stock Exchange over the 1973-2002 period, we find that (i) returns ‘switch’ between a zero-expected return/low volatility state and a high expected return/high volatility state; (ii) states are persistent and hence state changes can be forecast to some extent; (iii) the probability of state changes can be explained in terms of changes in the fundamentals; (iv) fundamentals do not have a direct impact on the expected returns but they only affect the transition probability matrix. Overall, our results show that a non-linear relation between market price changes and market fundamentals can be caught within the framework of (Markov) switching regession models.

Keywords: Asset prices; Markov-switching; Nonlinear models (search for similar items in EconPapers)
Date: 2003
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DOI: 10.1007/s10260-003-0053-3

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