Critical Finance Review > Vol 14 > Issue 1

Robust Inference for Consumption-Based Asset Pricing with Power

Tim A. Kroencke, FHNW School of Business Basel, Switzerland, tim.kroencke@fhnw.ch
 
Suggested Citation
Tim A. Kroencke (2025), "Robust Inference for Consumption-Based Asset Pricing with Power", Critical Finance Review: Vol. 14: No. 1, pp 129-178. http://dx.doi.org/10.1561/104.00000154

Publication Date: 19 Mar 2025
© 2025 Tim A. Kroencke
 
Subjects
 
Keywords
G12
Consumption-based asset pricingEquity premiumCross-section of stock returnsRobust inferencePowerful inference
 

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Open Access

This is published under the terms of CC-BY.

In this article:
1. Model, Data, Preliminary Analysis 
2. GMM Estimation and the Non-Linear Model 
3. The Fama–MacBeth Method and the Linearized Model 
4. Conclusion 
Appendix 
References 

Abstract

Kleibergen and Zhan (2020) propose a new approach to test consumption-based asset pricing models that is robust to the “useless” factor problem, i.e., concluding too often that a factor is priced when the factor is actually uncorrelated with the test assets and is not priced. I show that even when factor correlation is economically large and significant (think of 0.40 and larger), their testing approach lacks power in small samples to detect sufficient factor correlation or to find that a factor is priced. I propose simple remedies that help to achieve robust and powerful asset pricing tests.

DOI:10.1561/104.00000154