Model Uncertainty, Thick Modelling and the Predictability of Stock Returns

Carlo Favero () and Marco Aiolfi

No 3997, CEPR Discussion Papers from C.E.P.R. Discussion Papers

Abstract: Recent financial research has provided evidence on the predictability of asset returns. In this Paper we consider the results contained in Pesaran-Timmerman (1995), which provided evidence on predictability of excess returns in the US stock market over the sample 1959-92. We show that the extension of the sample to the nineties weakens considerably the statistical and economic significance of the predictability of stock returns based on earlier data. We propose an extension of their framework, based on the explicit consideration of model uncertainty under rich parameterizations for the predictive models. We propose a novel methodology to deal with model uncertainty based on ?thick? modelling, i.e. considering a multiplicity of predictive models rather than a single predictive model. We show that portfolio allocations based on a thick modeling strategy systematically outperform thin modelling.

JEL-codes: C53 G11 (search for similar items in EconPapers)
Date: 2003-08
New Economics Papers: this item is included in nep-cfn, nep-ets, nep-fmk, nep-mic and nep-rmg
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (7)

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