Stock Return Serial Dependence and Out-of-Sample Portfolio Performance

Victor DeMiguel; Francisco J. Nogales; Raman Uppal

doi:10.1093/rfs/hhu002

Stock Return Serial Dependence and Out-of-Sample Portfolio Performance

Victor DeMiguel¹; Francisco J. Nogales²; Raman Uppal³

¹ Bamenda University of Science and Technology · ² Universidad Carlos III de Madrid · ³ Ecole des Hautes Etudes Commerciales du Nord

Review of Financial Studies 2014

We study whether investors can exploit serial dependence in stock returns to improve out-of-sample portfolio performance. We show that a vector-autoregressive (VAR) model captures stock return serial dependence in a statistically significant manner. Analytically, we demonstrate that, unlike contrarian and momentum portfolios, an arbitrage portfolio based on the VAR model attains positive expected returns regardless of the sign of asset return cross-covariances and autocovariances. Empirically, we show, however, that both the arbitrage and mean-variance portfolios based on the VAR model outperform the traditional unconditional portfolios only for transaction costs below ten basis points.

DOI: 10.1093/rfs/hhu002
Volume: 27 (4)
Pages: 1031-1073
Language: en
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