Bayesian Portfolio Mean–Variance Efficiency Test with Sharpe Ratio’s Sampling Error

Lie-Jane Kao, Huei Ching Soo and Cheng Few Lee

Chapter 93 in Handbook of Financial Econometrics, Mathematics, Statistics, and Machine Learning:(In 4 Volumes), 2020, pp 3241-3261 from World Scientific Publishing Co. Pte. Ltd.

Abstract: This study proposes a Bayesian test for a test portfolio p’s mean–variance efficiency that takes into account the sampling errors associated with the ex post Sharpe ratio ŜR of the test portfolio p. The test is based on the Bayes factor that compares the joint likelihoods under the null hypothesis H0 and the alternative H1, respectively. Using historical monthly return data of 10 industrial portfolios and a test portfolio, namely, the CRSP value-weighted index, from January 1941 to December 1973 and January 1980 to December 2012, the power function of the proposed Bayesian test is compared to the conditional multivariate F-test by Gibbons, Ross and Shanken (1989) and the Bayesian test by Shanken (1987). In an independent simulation study, the performance of the proposed Bayesian test is also demonstrated.

Keywords: Financial Econometrics; Financial Mathematics; Financial Statistics; Financial Technology; Machine Learning; Covariance Regression; Cluster Effect; Option Bound; Dynamic Capital Budgeting; Big Data (search for similar items in EconPapers)
JEL-codes: C01 C1 G32 (search for similar items in EconPapers)
Date: 2020
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