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APT Notes

This document discusses estimating an APT model and testing restrictions on the model coefficients using restricted and unrestricted regressions. It provides steps to estimate an APT model that includes the market risk premium and changes in industrial production and interest rates as factors. Restrictions are tested that Microsoft's returns move one-to-one with the market and are unaffected by industrial production changes. This can be done by hand or using Eviews to estimate the restricted and unrestricted regressions and compare their RSS values using an F-test. The F-statistic exceeds the critical value, so the null hypothesis is rejected, indicating Microsoft's returns do not perfectly track the market and are affected by industrial production changes.

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130 views

APT Notes

This document discusses estimating an APT model and testing restrictions on the model coefficients using restricted and unrestricted regressions. It provides steps to estimate an APT model that includes the market risk premium and changes in industrial production and interest rates as factors. Restrictions are tested that Microsoft's returns move one-to-one with the market and are unaffected by industrial production changes. This can be done by hand or using Eviews to estimate the restricted and unrestricted regressions and compare their RSS values using an F-test. The F-statistic exceeds the critical value, so the null hypothesis is rejected, indicating Microsoft's returns do not perfectly track the market and are affected by industrial production changes.

Uploaded by

Monzer Shkeir
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
Available Formats
Download as PDF, TXT or read online on Scribd
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MFIN 305: Quantitative Methods of Finance

Fall 2020-2021
Estimating the APT and Restricted and Unrestricted Regressions
Accompanying Eviews Workfile on Moodle: macro.wf1

1. APT Model Estimation


Suppose the APT model is given by:

𝑅𝑡 − 𝑅𝑓𝑡 = 𝛽1 + 𝛽2 (𝑅𝑚𝑡 − 𝑅𝑓𝑡 ) + 𝛽3 ∆𝐼𝑃𝑡 + 𝛽4 ∆𝑡𝑒𝑟𝑚𝑡 + 𝜇𝑡

To estimate this model on Eviews, you should use the following steps:

1
The output of the above estimated APT is given by:

2
The chief Investment officer is interested in knowing whether Microsoft returns move one-to-one
with the market and are unaffected by the industrial production.

The hypothesis should be:

𝐻0 : 𝛽2 = 1 𝑎𝑛𝑑 𝛽3 = 0

𝐻1 : 𝛽2 ≠ 1 𝑜𝑟 𝛽3 ≠ 0

Testing the above two restrictions can be either performed “by hand” (i.e., by you estimating the
restricted and unrestricted regressions) or by relying on Eviews. The two approaches are discussed next.

1.1. Method one: “By Hand”


Imposing H0 on the unrestricted regression yields the restricted regression:

(𝑅𝑡 − 𝑅𝑓𝑡 ) − (𝑅𝑚𝑡 − 𝑅𝑓𝑡 ) = 𝛽1 + 𝛽4 ∆𝑡𝑒𝑟𝑚𝑡 + 𝜇𝑡

To following are the steps involved in estimating the restricted regression:

3
The output from the restricted regression is given by:

The unrestricted RSS is: URSS = 51377.40


The restricted RSS is: RRSS= 52431.91

4
𝑅𝑅𝑆𝑆 − 𝑈𝑅𝑆𝑆 𝑇 − 𝑘
test statistic = ×
𝑈𝑅𝑆𝑆 𝑚

where m = 2, K= 4 , T=325

test statistic = 3.294228

F- Critical (2,321) (for α= 5%) = 3.00

Since the F-statistic is greater than the critical value, we reject the null hypothesis. Therefore, the
returns on Microsoft do not move one-to-one with the market or are affected by industrial
production or both.

1.2. Method two: Using Eviews

Testing the above multiple restriction could be performed by relying on Eviews’ built in
capabilities.

Starting from the unrestricted regression:

5
6
Given that the p-value of the F-statistic is less than 0.05, the null hypothesis is rejected.
Therefore, the returns on Microsoft do not move one-to-one with the market or are affected by
industrial production or both. Note that the F-statistic obtained used the “By hand” approach or
using Eviews are identical.

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