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ACFI3308

Financial Econometrics

Assessment Information – What you need to do

This assignment is an individual assignment.

You are the equity analyst for F&H Capital, a global investment firm located in New York. Your main task is to track the US and global equity markets and make recommendations to the trading departments. On this specific occasion, you are asked to provide an “Equity Research Report” on a portfolio of equities, exchange-traded funds (ETFs) and mutual funds.

There are two asset pricing models that the firm uses in assessing the predictability of the securities. These models are the Capital Asset Pricing Model (CAPM) and the Fama-French Three-Factor model.

The empirical CAPM is specified as follows:

Rxt  = a + F1 Rmt                                                                                             (1)

where:

F1 is the market beta of portfolio X; a is the intercept term.

Rxt  = (Rct  Rft ) defines the excess return on the portfolio X at time t

Rmt  = ( Rmkt  − Rft ) defines the market premium (return on the market portfolio - S&P 500 index) at time t.This document is for De Montfort University use and should not be passed to third parties or posted on any website.

Rct , Rmkt  and Rft are the return on portfolio c, market index mk and the risk rate, respectively.

The empirical Fama-French Three-Factor model is specified as follows:

Rxt  = a + F1 Rmt   +   F2SMBt   + F3 HMLt                                          (2)

where:

SMBt = Excess return of small cap over high cap firms at time t

HMLt =Excess return of value stock over growth stock at time t

The details of your report are itemized below.

SECURITY SELECTION AND PORTFOLIO CONSTRUCTION

1. From Yahoo Fund Screener, select ten (10) securities from the following class of assets.

 Three (3) equities listed on the NYSE or NASDAQ

 Three (3) exchange-traded funds (ETF) listed on the NYSE or NASDAQ

 Four (4) mutual funds domiciled in the US

2. For each security, download the daily adjusted close price series from 1 January 2005 to 30 June 2019.

3. Transform the daily price series to the monthly price series for each fund in your portfolio.

4. Transform the monthly price series to return series.

5. Construct a portfolio with the ten securities you picked using the following weights.

 Equities – 30%

 Exchange-traded funds (ETF) – 30%

 Mutual Funds – 40%

[Hint: This is equivalent to setting the weight of each security to 10%]

6. Set the rebalancing of your portfolio to one (1) year.

TIME SERIES VISUALISATION

7. Plot the monthly price series of your portfolio

8. Plot the monthly return series of your portfolio

9.Discuss the patterns you observe in the price and monthly series. The discussion should use relevant underpinning theories and economic events that explains the pattern observed.This document is for De Montfort University use and should not be passed to third parties or posted on any website.

ASSET PRICING REGRESSION

From the Fama-French website download directly into R the monthly Fama-French-Three factor return series.

Restricting the observations to the period 1 January 2005 to 30 June 2018:

10. Estimate a CAPM regression using equation (1) above and interpret your coefficients.

11. Estimate a Fama-French Three-Factor regression using equation (2) above and interpret your coefficients.

12. Compare the results of the two pricing models and discuss any similarities and differences. (Comment on the R-Squared and F-Statistics).

13. Test for serial correlation (autocorrelation) and heteroskedasticity in your CAPM and Fama-French Three factor models.

FORECASTING

14. Compute the root mean square error (RMSE) and mean absolute percentage error (MAPE) for the two asset pricing models and comment on the accuracy of your forecasts.

15. Assess how well the two asset pricing models perform in predicting the portfolio return between 1 July 2018 to 30 June 2019.

Criteria for Assessment - How you will be marked

The marks will be allocated as follows:

SECURITY SELECTION AND PORTFOLIO CONSTRUCTION [10 MARKS]

• Rationale provided for the securities selected. [3 marks]

• Clear itemization of the securities selected. [3 marks]

• Details on how portfolio is constructed [4 marks]

TIME SERIES VISUALISATION [10 MARKS]

• Plot of price and return series discussion of the observed pattern [2 marks]

• Identification and discussion of time series pattern [4 marks]

• Discussion of economic rationale [4 marks]

ASSET PRICING REGRESSION [40 MARKS]

• Appropriate regression estimation outputs [10 marks]

• Interpretation and discussion of the regression estimates [10 marks]

• Comparison of the two asset pricing models [10 marks]

• Test of autocorrelation and heteroskedasticity [10 marks]

FORECASTING [30 MARKS]

Forecast results and discussion [10 marks]

Forecast accuracy measures and discussion of results [20 marks]

FORMAT OF REPORT [10 MARKS]

Executive summary, introduction, logicalstructure, and appropriate referencing.

Most of the marks will be given to students that produce evidence of:

• A good understanding of asset pricing models and time series analysis.

• A good understanding of time series regression analysis and forecasting.

• Critical thinking in the interpretation of the findings.

Further information on University mark descriptors can be found here.

This assignment is designed to assess the following learning outcomes:

(I) Evaluate the defining characteristics of the varioustypes of stochastic processes as well as distinguish alternative financial econometric methodologies and effectively select the most appropriate one for the nature of the available data series.

(II) Perform and appraise business and economic forecasts using various econometrics techniques.

(III) Effectively communicate orally or in writing conceptually challenging concepts and ideas.

Assessment Details

The written report should be 1,000 words (plus or minus 10%).

There will be a penalty of a deduction of 10% of the mark for work exceeding the word limit by 10% or more.

The word limit includes quotations and citations but excludes tables, figures, the references list, executive summary, and appendices.

Data analysis and model estimations are to be carried out using the R Statistical programme.

Using alternative packages/software will lead to a penalty of 15% of the total grade for this assessment.

How to Submit your Assessment

There are two separate files that must be submitted for this assessment.

The assessment (Report) must be submitted by 12:00 noon (GMT/BST) on 15/12/2022 via

Turnitin on the ACFI3308 module shell. No paper copies are required. You can access the submission link through the module web.

The R Script and data used for the assessment must be submitted separately using the OneDrive link below on 15/12/2022.

OneDrive Data and R Script Submission link

• Your coursework will be given a zero mark if you do not submit a copy through Turnitin. Please take care to ensure that you have fully submitted your work.

• Please ensure that you have submitted your work using the correct file format, unreadable files will receive a mark of zero. The Faculty accepts Microsoft Office and PDF documents, unless otherwise advised by the module leader.

• All work submitted after the submission deadline without a valid and approved reason will be subject to the University regulations on late submissions.

o If an assessment is submitted up to 24 hours late the mark for the work will be capped at the pass mark of 40 per cent for undergraduate modules or 50 per cent for postgraduate modules

o If an assessment is submitted beyond 24 hours late the work will receive a mark of zero per cent

o The above applies to a student’s first attempt at the assessment. If work submitted as a reassessment of a previously failed assessment task is submitted later than the deadline the work will immediately be given a mark of zero per cent

o If an assessment which is marked as pass/fail rather than given a percentage mark is submitted later than the deadline, the work will immediately be marked as a fail

• The University wants you to do your best. However, we know that sometimes events happen which mean that you can’t submit your coursework by the deadline – these events should be beyond your control and not easy to predict. If this happens, you can apply for an extension to your deadline for up to five working days, or if you need longer, you can apply for a deferral, which takes you to the next assessment period (for example, to the re-sit period following the main Assessment Boards). You must apply before the deadline for your assessment. You will find information about applying for extensions and deferrals here.

• Students MUST keep a copy and/or an electronic file of their assignment.

• Checks will be made on your work using anti-plagiarism software and approved plagiarism checking websites.