This paper develops and implements an exact finite-sample test of asset pricing models with time varying risk premia using posterior probabilities. The strength of our approach is that it allows multiple conditional asset pricing specifications, both nested and non-nested, to be tested
It is a commonly held belief that markets tend to both over-react and under-react to the arrival of good or bad news. Market confidence can drive up values of stocks, and market fear can lead to large negative dips in stock value.
This paper develops and implements an exact finite-sample test of asset pricing models with time varying risk premia using posterior probabilities. The strength of our approach is that it allows multiple conditional asset pricing specifications, both nested and non-nested, to be tested