Publication Date: June 2015
Financial theory and econometric methodology both struggle in formulating models that are logically sound in reconciling short run martingale behaviour for ﬁnancial assets with predictable long run behavior, leaving much of the research to be empirically driven. The present paper overviews recent contributions to this subject, focussing on the main pitfalls in conducting predictive regression and on some of the possibilities oﬀered by modern econometric methods. The latter options include indirect inference and techniques of endogenous instrumentation that use convenient temporal transforms of persistent regressors. Some additional suggestions are made for bias elimination, quantile crossing amelioration, and control of predictive model misspeciﬁcation.
Bias, Endogenous instrumentation, Indirect inference, IVX estimation, Local unit roots, Mild integration, Prediction, Quantile crossing, Unit roots, Zero coverage probability
JEL Classification Codes: C22, C23
See CFP: 1491