The LQG is very pleased that Svetlana Bryzgalova, Assistant Professor at the London Business School will present the April 2020 LQG seminar.
Forest through the Trees: Building Cross-Sections of Stock Returns, joint with Markus Pelger and Jason Zhu
Abstract: We show how to build a set of basis assets that captures complex information contained in a given list of stock characteristics. Our cross-section of portfolios is a small number of long-only strategies that (a) fully reflect the information in the cross-sectional return predictors, allowing for conditional interactions and non-linearities, (b) provide a small set of interpretable test assets for evaluating asset pricing models, (c) are substantially harder to price than conventional double or triple sorted portfolios constructed from the same information set, and (d) are the building blocks for a stochastic discount factor (SDF) projected on the characteristic space. We use decision trees to generalize the concept of conventional sorting, and develop a novel approach to the robust recovery of a sparse set of the SDF basis assets. Empirically, we show that traditionally sorted portfolios and factors present a too low hurdle for candidate models as they miss the complex information structure of the original returns. Our results have important implications for evaluating asset pricing models, and modeling expected returns.
The paper is available on SSRN
This event is generously hosted by BlackRock
As usual registration details shall be sent by e-mail to those on the LQG mailing list.