GKRFactorScreening {intrinsicFRP}

Factor screening procedure of Gospodinov-Kan-Robotti (2014)

Description

Performs the factor screening procedure of Gospodinov-Kan-Robotti (2014) doi:10.2139/ssrn.2579821, which is an iterative model screening procedure based on the sequential removal of factors associated with the smallest insignificant t-test of a nonzero misspecification-robust SDF coefficient. The significance threshold for the absolute t-test is set to target_level / n_factors, where n_factors indicates the number of factors in the model at the current iteration; that is, it takes care of the multiple testing problem via a conservative Bonferroni correction. Standard errors are computed with the heteroskedasticity and autocorrelation using the Newey-West (1994) doi:10.2307/2297912 estimator, where the number of lags is selected using the Newey-West plug-in procedure: n_lags = 4 * (n_observations/100)^(2/9). For the standard error computations, the function allows to internally pre-whiten the series by fitting a VAR(1), i.e., a vector autoregressive model of order 1. All the details can be found in Gospodinov-Kan-Robotti (2014) doi:10.2139/ssrn.2579821.

Usage

GKRFactorScreening(
  returns,
  factors,
  target_level = 0.05,
  hac_prewhite = FALSE,
  check_arguments = TRUE
)

Arguments

returns

⁠n_observations x n_returns⁠-dimensional matrix of test asset excess returns.

factors

⁠n_observations x n_factors⁠-dimensional matrix of risk factors.

target_level

Number specifying the target significance threshold for the tests underlying the GKR factor screening procedure. To account for the multiple testing problem, the significance threshold for the absolute t-test is given by target_level_gkr2014_screening / n_factors, where n_factors indicate the number of factors in the model at the current iteration. Default is 0.05.

hac_prewhite

A boolean indicating if the series needs prewhitening by fitting an AR(1) in the internal heteroskedasticity and autocorrelation robust covariance (HAC) estimation. Default is false.

check_arguments

boolean TRUE for internal check of all function arguments; FALSE otherwise. Default is TRUE.

Value

A list contaning the selected GKR SDF coefficients in SDF_coefficients, their standard errors in standard_errors, t-statistics in t_statistics and indices in the columns of the factor matrix factors supplied by the user in selected_factor_indices.

Examples

# import package data on 6 risk factors and 42 test asset excess returns
factors = intrinsicFRP::factors[,-1]
returns = intrinsicFRP::returns[,-1]

# Perform the GKR factor screening procedure
screen = GKRFactorScreening(returns, factors)