This course will cover a selected list of current empirical research topics in finance and related econometric methods. We start with a brief review of elementary asset pricing theory. Next we discuss several special cases such as the CAPM, the ICAPM, the APT and discuss GMM estimation of generic asset pricing models as well as specific cases. We also cover microstructure theory and address empirical issues in the area. The course concludes with selected topics which vary from year to year.

Prerequisites are: Econ 271, 272. Knowledge of the material in Econ 274 (Time Series) is beneficial.

Students taking the course for credit will be required to do the homeworks, accounting for 40% of the grade and prepare take the final exam counting for the remaining 40%.

Material from two texbooks will be used thoughout the course:

[CLM} John Y. Campbell, Andrew W. Lo and A. Craig MacKinlay, The Econometrics of Financial Markets, Princeton University Press, 1997.

[AP} John Cochrane, Asset Pricing, Princeton University Press, 2001.
 

In addition to the textbooks we will also assign journal articles (most downloadable from JSTOR and/or UNC e-journal links). We will not have time to explicitly cover all of the papers on this reading list in class, although we will cover many of them. Nevertheless, students are encouraged to read the papers before class and should have a working knowledge of all of the readings on the list below.

0. A look at some stylized facts: historical evidence of finanical asset returns

    0.1 Historical facts

    0.2 The Declining U.S. Equity Premium, Jagannathan et al. Federal Reserve Bank of Minneapolis Quarterly Review

        i. [AP] preface, Chapter 1, Chapter 2, consumption-based model
        ii. [AP] Chapter 4, discount factor

II. Econometric Tool: GMM

    II.1 Textbook reading material

(c) Unconditional Moments: Equity Premium Puzzle, Risk-free Rate Puzzle, Hansen-
Jagannathan Bounds
i. *AP, Chapter 21, pp. 455-465
ii. *Campbell (2002)
iii. [Mehra and Prescott (1985)]
iv. [Hansen and Jagannathan (1991)]
(d) Conditional Moments: Market Eáciency, Excess Volatility, Predictability of Stock
Index Returns, Transitory Variation in Asset Values
i. Market Eáciency and Predictability of Stock Index Returns
A. *[Fama (1991)]
B. Campbell and Cochrane (1999)
ii. Predictability: Methodology
A. CLM, Chapters 2 and 7
B. *AP, pp. 387-434
C. *Hodrick (1992)
D. *Lettau and Ludvigson (2001a)
E. *Valkanov (2001)
F. Gonzalo and Ng (2001)
G. Inoue and Kilian (2002)
3
iii. Empirical Survey: Excess Volatility, Predictability and Transitory Variation
A. [Shiller (1981)]
B. LeRoy and Porter (1981)
C. *[Fama and French (1988a)]
D. [Fama and French (1988b)]
E. *[Campbell and Shiller (1988)]
F. *Fama and French (1989)
G. *Campbell (1991)
H. Cochrane (1991)
I. *Cochrane (1994)
J. *Stambaugh (1999)
K. Campbell and Shiller (2001)
L. *Lettau and Ludvigson (2001a)
M. *Lettau and Ludvigson (2001b), ßrst half on conditional mean
N. *Lettau and Ludvigson (2002a)
O. Lettau and Ludvigson (2002b)
P. *Lewellen (2001)
Q. f Campbell and Yogo (2002)g
5. The Cross-Section of Stock Returns
(a) Conditional Models and Conditioning Information
i. AP Chapter 8
(b) The CAPM, I-CAPM, C-CAPM
i. *AP Chapter 9
ii. [Merton (1973)]
iii. [Breeden (1979)]
iv. *Campbell (1996)
v. fCampbell and Voulteenaho (2002)g
(c) Methodology: Estimating and Evaluating Asset Pricing Models
i. *AP Chapters, 10-13, 15, 16
ii. Black, Jensen, and Scholes (1972)
4
iii. [Fama and MacBeth (1973)]
iv. Gibbons, Ross, and Shanken (1989)
v. [Shanken (1992)]
vi. *Cochrane (1996)
vii. Campbell and Cochrane (2000)
(d) Empirical Survey: Size and Value Factors, Macro Factors, Reversal, Momentum
i. AP pages 434-452
ii. De Bondt and Thaler (1985)
iii. Chen, Roll, and Ross (1986)
iv. Jegadeesh and Titman (1993)
v. *[Fama and French (1992)]
vi. *[Fama and French (1993)]
vii. *Fama and French (1996)
viii. Berk (1995)
ix. *Jagannathan and Wang (1996)
x. *Lettau and Ludvigson (2001c)
xi. fSantos and Veronesi (2000)g
xii. fPiazzesi, Schneider, and Tuzel (2002)g
6. Conditional Volatility, Business Cycle Variation in the Risk-Return TradeoÞ
(a) [Schwert (1989)]
(b) *Lettau and Ludvigson (2001b), second half on conditional volatility
(c) *Brandt and Kang (2001)
5
References
Berk, J. B. (1995): ÕA Critique of Size-Related Anomalies,Ô Review of Financial Studies,
8, 275Û286.
Black, F., M. Jensen, and M. Scholes (1972): ÕThe Capital Asset Pricing Model:
Some Empirical Tests,Ô in Studies in the Theory of Capital Markets, ed. by M. C. Jensen.
Praeger Publishers Inc., New York.
Brandt, M. W., and Q. Kang (2001): ÕOn the Relation Between the Conditional Mean
and Volatility of Stock Returns: A Latent VAR Approach,Ô Journal of Financial Eco-
nomics forthcoming.
Breeden, D. (1979): ÕAn Intertemporal Asset Pricing Model with Stochastic Consumption
and Investment Opportunities,Ô Journal of Financial Economics, 7, 265Û296.
Campbell, J. Y. (1991): ÕA Variance Decomposition for Stock Returns,Ô Economic Jour-
nal, 101, 157Û179.
(1996): ÕUnderstanding Risk and Return,Ô Journal of Political Economy, 104(2),
298Û345.
(2002): ÕConsumption-Based Asset Pricing,Ô in Handbook of the Economics of
Finance forthcoming, ed. by G. Constantinides, M. Harris, and R. Stulz. North-Holland,
Amsterdam.
Campbell, J. Y., and J. H. Cochrane (1999): ÕBy Force of Habit: A Consumption-
Based Explanation of Aggregate Stock Market Behavior,Ô Journal of Political Economy,
107, 205Û251.
(2000): ÕExplaining the Poor Performance of Consumption-Based Asset Pricing
Models,Ô Journal of Finance, 55(6), 2863Û2878.
Campbell, J. Y., and R. J. Shiller (1988): ÕThe Dividend-Price Ratio and Expectations
of Future Dividends and Discount Factors,Ô Review of Financial Studies, 1, 195Û227.
(2001): ÕValuation Ratios and the Long-Run Stock Market Outlook: An Update,Ô
NBER working paper No. 8221.
Campbell, J. Y., and T. Voulteenaho (2002): ÕGood Beta, Bad Beta,Ô Unpublished
paper, Harvard University.
6
Campbell, J. Y., and M. Yogo (2002): ÕEácient Tests of Stock Return Predictability,Ô
Unpublished paper, Harvard University.
Chen, N.-F., R. Roll, and S. A. Ross (1986): ÕEconomic Forces and the Stock Market,Ô
Journal of Business, 59(3), 383Û403.
Cochrane, J. H. (1991): ÕVolatility Tests and Eácient Markets: A Review Essay,Ô Journal
of Monetary Economics, 127, 463Û485.
(1994): ÕPermanent and Transitory Components of GDP and Stock Prices,Ô Quar-
terly Journal of Economics, 109, 241Û265.
(1996): ÕA Cross-Sectional Test of an Investment-Base Asset Pricing Model,Ô
Journal of Political Economy, 104, 572Û621.
De Bondt, W. F.-M., and R. Thaler (1985): ÕDoes the Stock Market Overreact?,Ô
Journal of Finance, 40(3), 793Û805.
Fama, E. F. (1991): ÕEácient Markets II,Ô Journal of Finance, 46(5), 1575Û1618.
Fama, E. F., and K. R. French (1988a): ÕDividend Yields and Expected Stock Returns,Ô
Journal of Financial Economics, 22, 3Û27.
(1988b): ÕPermanent and Temporary Components of Stock Prices,Ô Journal of
Political Economy, 96(2), 246Û273.
(1989): ÕBusiness Conditions and Expected Returns on Stocks and Bonds,Ô Journal
of Financial Economics, 25, 23Û49.
(1992): ÕThe Cross-Section of Expected Returns,Ô Journal of Finance, 47, 427Û465.
(1993): ÕCommon Risk Factors in the Returns on Stocks and Bonds,Ô Journal of
Financial Economics, 33, 3Û56.
(1996): ÕMultifactor Explanations of Asset Pricing Anomalies,Ô Journal of Finance,
51, 55Û84.
Fama, E. F., and J. MacBeth (1973): ÕRisk, Return and Equilibrium: Empirical Tests,Ô
Journal of Political Economy, 81, 607Û636.
Gibbons, M. R., S. A. Ross, and J. Shanken (1989): ÕA test of the Eáciency of a
Given Portfolio,Ô Econometrica, 57(5), 1121Û1152.
7
Gonzalo, J., and S. Ng (2001): ÕA Systematic Framework for Analyzing the Dynamic
EÞects of Permanent and Transitory Shocks,Ô Journal of Economic Dynamics and Control,
25(10), 1527Û1546.
Hansen, L. P., and R. Jagannathan (1991): ÕRestrictions on Intertemporal Marginal
Rates of Substitution Implied by Asset Returns,Ô Journal of Political Economy, 99, 225Û
262.
Hansen, L. P., and K. Singleton (1982): ÕGeneralized Instrumental Variables Estima-
tion of Nonlinear Rational Expectations Models,Ô Econometrica, 50(5), 1269Û86.
Hodrick, R. (1992): ÕDividend Yields and Expected Stock Returns: Alternative Proce-
dures for Inference and Measurement,Ô Review of Financial Studies, 5, 357Û386.
Inoue, A., and L. Kilian (2002): ÕIn-Sample or Out-of-Sample Tests of Predictability:
Which One Should We Use?,Ô Unpublished paper, Department of Economics, University
of Michigan.
Jagannathan, R., and Z. Wang (1996): ÕThe Conditional CAPM and the Cross-Section
of Expected Returns,Ô Journal of Finance, 51, 3Û54.
Jegadeesh, N., and S. Titman (1993): ÕReturns to Buying Winners and Losers: Impli-
cations for Stock Market Eáency,Ô Journal of Finance, 48(1), 65Û91.
LeRoy, S., and R. Porter (1981): ÕThe Present Value Relation: Tests Based on Variance
Bounds,Ô Econometrica, 49, 555Û557.
Lettau, M., and S. C. Ludvigson (2001a): ÕConsumption, Aggregate Wealth and Ex-
pected Stock Returns,Ô Journal of Finance, 56(3), 815Û849.
(2001b): ÕMeasuring and Modeling Variation in the Risk-Return TradeoÞ,Ô Un-
published paper, New York University.
(2001c): ÕResurrecting the (C)CAPM: A Cross-Sectional Test When Risk Premia
are Time-Varying,Ô Journal of Political Economy, 109(6), 1238Û1287.
(2002a): ÕExpected Returns and Expected Dividend Growth,Ô Unpublished Paper,
New York University.
(2002b): ÕUnderstanding Trend and Cycle in Asset Values,Ô Unpublished Paper,
New York University.
8
Lewellen, J. W. (2001): ÕPredicting Returns With Financial Ratios,Ô Unpublished paper,
MIT Sloan School of Management.
Mehra, R., and E. Prescott (1985): ÕThe Equity Premium Puzzle,Ô Journal of Mone-
tary Economics, 15, 145Û161.
Merton, R. C. (1973): ÕAn Intertemporal Capital Asset Pricing Model,Ô Econometrica,
41, 867Û887.
Piazzesi, M., M. Schneider, and S. Tuzel (2002): ÕHousing, Consumption, and Asset
Pricing,Ô Unpublished paper, UCLA.
Santos, J., and P. Veronesi (2000): ÕLabor Income and Predictable Stock Returns,Ô
Unpublished paper, University of Chicago.
Schwert, G. W. (1989): ÕWhy Does Stock Market Volatility Change over Time,Ô Journal
of Finance, 44(5), 1115Û53.
Shanken, J. (1992): ÕOn the Estimation of Beta-Pricing Models,Ô Review of Financial
Studies, 5, 1Û34.
Shiller, R. J. (1981): ÕDo Stock Prices Move Too Much to be Justißed by Subsequent
Changes in Dividends?,Ô American Economic Review, 71, 421Û436.
Stambaugh, R. F. (1999): ÕPredictive Regressions,Ô Journal of Financial Economics, 54,
375Û421.
Valkanov, R. (2001): ÕLong-Horizon Regressions: Theoretical Results and Applications,Ô
Journal of Financial Economics, forthcoming.
9

Links to lecture notes:

1.  Lecture 1: Asset Pricing Theory - A brief Review

2.  Lecture 2: Hansen-Richard and the Stochastic Discount Factor

3.  Lecture 3: Introduction to GMM

4.  Lecture 4: More on GMM

5.  Lecture 5: HJ Distances

   Material pertaining to the remaining lectures will be distributed in class