Improvement in Finite Sample Properties of the Hansen-Jagannathan Distance Test

Jagannathan andWang (1996) derive the asymptotic distribution of the Hansen-Jagannathan distance (HJ-distance) proposed by Hansen and Jagannathan (1997), and develop a specification test of asset pricing models based on the HJ-distance. While the HJ-distance has several desirable properties, Ahn and Gadarowski (2004) find that the specification test based on the HJ-distance overrejects correct models too severely in commonly used sample size to provide a valid test. This paper proposes to improve the finite sample properties of the HJ-distance test by applying the shrinkage method (Ledoit and Wolf, 2003) to compute its weighting matrix. The proposed method improves the finite sample performance of the HJ-distance test significantly.


Issue Date:
2007-06
Publication Type:
Working or Discussion Paper
DOI and Other Identifiers:
Record Identifier:
https://ageconsearch.umn.edu/record/273602
Language:
English
Total Pages:
40
JEL Codes:
C13; C52; G12
Series Statement:
Working Paper No. 1126




 Record created 2018-06-13, last modified 2020-10-28

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