Working Paper: NBER ID: w2168
Authors: Andrew W. Lo; Craig Mackinlay
Abstract: In this paper, we test the random walk hypothesis for weekly stock market returns by comparing variance estimators derived from data sampled at different frequencies. The random walk model is strongly rejected for the entire sample period (1962-1985) and for all sub-periods for a variety of aggregate returns indexes and size-sorted portfolios. Although the rejections are largely due to the behavior of small stocks, they cannot be ascribed to either the effects of infrequent trading or time-varying volatilities. Moreover, the rejection of the random walk cannot be interpreted as supporting a mean-reverting stationary model of asset prices, but is more consistent with a specific nonstationary alternative hypothesis.
Keywords: random walk; stock market; specification test; asset pricing
JEL Codes: G12; C12
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| random walk model rejected (C52) | observed serial correlation in weekly returns (C22) |
| small stocks behavior (G41) | random walk model rejected (C52) |
| variance of increments (C29) | insights into random walk theory (C58) |
| observed patterns (C90) | mean-reverting stationary model rejection (C22) |
| serial correlation in returns (C22) | restrictions on economic models of asset pricing (G19) |
| infrequent trading and time-varying volatilities (C58) | random walk model rejection (C59) |