This paper presents a detailed empirical examination of the South African equity premium, and a quantitative theoretic exercise to test the canonical inter-temporal consumption-based asset-pricing model under power utility. Over the long run, the South African stock market produced average returns six to eight percentage points above bonds and cash, and at the 20-year horizon, an investor would not have experienced a single negative realised equity premium over the entire 105-year period we examine. Yet the maximum equity premium rationalised by the consumption-based model is 0.4%. The canonical macro-financial model closely matches the average risk-free rate, using realistic parameters for the coefficient of risk aversion and a positive rate of time preference. Copyright (c) 2010 The Authors. Journal compilation (c) 2010 Economic Society of South Africa.
Microstructure aspects of nominal exchange rate determination are less relevant in countries with embryonic financial markets. In less-developed economies, trade in goods and services is a more significant driver of currency demand than financial market speculation or hedging, and central banks actively set monetary variables. We develop a simple variation of the standard monetary model of exchange rate determination, incorporating interest rate rules but not relying on interest rate parity, and study the effect of monetary fundamentals on the Mozambican exchange rate. We find a long-run relationship between fundamentals and exchange rates, with coefficient signs in regression equations consistent with theoretic predictions. Moreover, the monetary model outperforms a random walk in predicting metical exchange rates out of sample at the four-quarter horizon. 1 Note that the empirical evidence against monetary models relies heavily on the models' ability to perform better than a random walk in forecasting the exchange rate. Alternative model evaluation criteria can lead to more encouraging results. See Engel et al. (2008).
We implement a recursive out-of-sample method to examine anomaliesbased ex-ante predictability in the cross-section of stock returns. We obtain a series of simulated out-of-sample returns, consistent with investors using only prior information when choosing predictor variables. We …nd that, by commonly used performance criteria, real-time trading strategies based on size, value and momentum e¤ects would not consistently outperform a passive index of South African stocks-despite consistent in-sample excess returns. Our results suggest that the empirical relationship between the anomalous factors and cross-sectional average returns is unstable. JEL Classi…cation: G11; G12; G14; M41; C21 Keywords: anomalies; real-time predictability; long/short portfolios; emerging markets; South Africa We are grateful to Stan du Plessis, an ERSA (anonymous) referee, and seminar participants at the African Econometrics Society Conference, Cape Town, 2007, for helpful comments on previous versions of this paper; and to Erika van der Merwe for editorial assistance. The authors are solely responsible for any remaining errors, of course. y The views expressed in the paper are the personal views of the author and do not represent those of Barclays Capital. The author contributed to this paper while at the University of Cape Town, prior to joining Barclays Capital.
Short‐term interest rate processes determine the term structure of interest rates in an arbitrage‐free market and are central to the valuation of interest rate derivatives. We obtain parameter estimates and compare the empirical fit of alternative one‐factor continuous‐time processes for the South African short‐term interest rate (and hence of arbitrage‐free term structure models) using Gaussian estimation methods. We find support only for diffusions where the interest rate volatility is moderately sensitive to the level of the interest rate. Other common models with restrictions that either preclude this effect, or restrict it to be too high, do not fit the data. Differences in the specification of the drift function have no evident effect on model performance.
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