FINN2031 Financial Econometrics 1

SUMMATIVE ASSIGNMENT

Answer ALL Questions

Section A:

Download the following daily data from Wharton Research Data Services (WRDS) for the period between 02/01/2013 and 30/06/2023 inclusive:

- the share prices of a company that has been randomly assigned to you*,

- the S&P total market index (proxy for the market portfolio), and

- the U.S. one-month treasury bill (proxy for the risk-free rate of return).

*N.B. you will be provided with the name of the company assigned to you on the module’s Blackboard Learn Ultra (BLU) site.

a) Transform. the share prices and index into returns, plot the return series, report the summary statistics, and examine whether the returns are normally distributed. (20 marks)

b) The market model states that the excess return on a stock depends on the excess return on the market portfolio and the extent of the stock’s responsiveness as measured by its beta, i.e., where Ri,t is the excess return on stock i and Rm,t is the excess return on the market.

i. Estimate the beta value of your company using the model described above and check the adequacy of the model. (20 marks)

ii. Construct an appropriate dummy variable and estimate a multiple regression model to investigate whether the COVID-19 (which was formally recognised as a global pandemic by the World Health Organization on 11 March 2020) has had an impact on your company’s excess return and its systematic risk. (20 marks)

Section B:

Download the ‘section b_data.xlsx’ file from the module’s BLU site. It contains monthly data for 10 variables (sp_500, cpi, aaa10y, baa10y, tb3ms, tb10y, con_credit, ind_prod, usd_index, and m1_money) from August 2001 to July 2021. The definitions of these variables are provided in the worksheet ‘description’. Import the above-mentioned data file into Stata and construct 8 new variables defined in the box below.

c) Provide an explanation from the literature for why the relationship between stock market returns and inflation can be simultaneous. (20 marks)

d) Consider the following model:

Given the evidence of simultaneous relationship discussed in part (c), explain why it is not appropriate to estimate the model by applying OLS separately to equations (1) and (2). Estimate the model using TSLS method and comment on your results. (20 marks)

All results should be properly tabulated in the main body of the assignment along with any diagrams you find useful. You should *not* include the raw Stata output. This should be reformulated into your own tables. Keep your answers as precise and concise as possible. You should properly reference any relevant econometric literature (theoretic and applied) referred to in the text.

Overall word limit: 2,000 words maximum.

Your completed assignment must be uploaded to Ultra no later than 12:00 midday on 23rd April 2024.

The assignment should be submitting using one of the following file types: .docx or .pdf

A penalty will be applied for work uploaded after 12:00 midday as detailed in the Student Information Hub. You must leave sufficient time to fully complete the upload process before the deadline and check that you have received a receipt. At peak periods, it can take up to 30 minutes for a receipt to be generated.

Assignments should be typed, using 1.5 spacing and an easy-to-read 12-point font. You should use double-sided printing, and ensure that assignments are securely bound. Written assignments and dissertations/business projects must not exceed the word count indicated in the module handbook/assessment brief.

The word count should:

§ Include all the text, including title, preface, introduction, in-text citations, quotations, footnotes and any other items not specifically excluded below.

§ Exclude diagrams, tables (including tables/lists of contents and figures), equations, executive summary/abstract, acknowledgements, declaration, bibliography/list of references and appendices. However, it is not appropriate to use diagrams or tables merely as a way of circumventing the word limit. If a student uses a table or figure as a means of presenting his/her own words, then this is included in the word count.

Examiners will stop reading once the word limit has been reached, and work beyond this point will not be assessed. Checks of word counts will be carried out on submitted work, including any assignments or dissertations/business projects that appear to be clearly over-length. Checks may take place manually and/or with the aid of the word count provided via an electronic submission.

Where a student has intentionally misrepresented their word count, the School may treat this as an offence under Section IV of the General Regulations of the University. Extreme cases may be viewed as dishonest practice under Section IV, 5 (a) (x) of the General Regulations.

Very occasionally it may be appropriate to present, in an appendix, material which does not properly belong in the main body of the assessment but which some students wish to provide for the sake of completeness. Any appendices will not have a role in the assessment - examiners are under no obligation to read appendices and they do not form. part of the word count. Material that students wish to be assessed should always be included in the main body of the text.

Guidance on referencing can be found on Durham University website and in the Business School Students SharePoint Site.

Performance in the summative assessment for this module is judged against the following criteria:

· Relevance to question(s)

· Organisation, structure and presentation

· Depth of understanding

· Analysis and discussion

· Use of sources and referencing

· Overall conclusions