Work

Pitfalls in VAR based return decompositions: A clarification

Year: 2011

Type: article

Abstract: We analyze the pitfalls involved in VAR based return decompositions. First, we show that recent criticism of such decompositions is misplaced and builds on invalid VAR models and erroneous interpretations. Second, we explain the requirements needed for VAR decompositions to be valid. A crucial - but often neglected - requirement is that the asset price needs to be included as a state variable in the VAR. Finally, we clarify the intriguing issue of the role of the residual component in return decompositions. In a properly specified VAR, it makes no difference whether return news and cash flow news are both computed directly or one of them is backed out as a residual.

Source: Journal of Banking & Finance

DOI: 10.1016/j.jbankfin.2011.11.004

Authors: Tom Engsted, Thomas Q. Pedersen, Carsten Tanggaard

Institution: Aarhus University

Language: English

Topic: Financial Markets and Investment Strategies

Subfield: Finance

Field: Economics, Econometrics and Finance

Domain: Social Sciences

Open Access status: green

Funder: Danmarks Grundforskningsfond

OpenAlex ID: W2103635366

FWCI: 21.31

Cites: 41

Cited by: 137

Related to: 10