Can an 'Estimation Factor' Help Explain Cross-Sectional Returns?

32 Pages Posted: 8 Jan 2005 Last revised: 13 Jan 2009

Date Written: Jan 12, 2009

Abstract

We show in a theoretical model that the expected excess return on any asset depends on its covariance not only with the market portfolio, but also with changes in the representative agent's estimate. We test our model using GMM and compare it to the CAPM. The results suggest that adding an "estimation factor" to the CAPM helps explain cross-sectional returns and that, unconditionally, this estimation factor carries a negative risk premium.

Keywords: Learning, incomplete information, equilibrium, asset pricing models

JEL Classification: C13, G12

Suggested Citation

Lundtofte, Frederik, Can an 'Estimation Factor' Help Explain Cross-Sectional Returns? (Jan 12, 2009). Available at SSRN: https://ssrn.com/abstract=644401 or http://dx.doi.org/10.2139/ssrn.644401

Frederik Lundtofte (Contact Author)

Aalborg University Business School ( email )

Aalborg, DK-9220
Denmark