Chapter 1 - Introduction. This chapter sets the scene for the book by discussing in broad terms the questions of what is econometrics, and what are the ‘stylised facts’ describing financial data that researchers in this area typically try to capture in their models. It also collects together a number of preliminary issues relating to the construction of econometric models in finance. | Chapter 1 Introduction Introductory Econometrics for Finance © Chris Brooks 2014 Introductory Econometrics for Finance Copyright 2002, Chris Brooks The Nature and Purpose of Econometrics What is Econometrics? Literal meaning is “measurement in economics”. Definition of financial econometrics: The application of statistical and mathematical techniques to problems in finance. Introductory Econometrics for Finance © Chris Brooks 2014 Introductory Econometrics for Finance Copyright 2002, Chris Brooks Examples of the kind of problems that may be solved by an Econometrician 1. Testing whether financial markets are weak-form informationally efficient. 2. Testing whether the CAPM or APT represent superior models for the determination of returns on risky assets. 3. Measuring and forecasting the volatility of bond returns. 4. Explaining the determinants of bond credit ratings used by the ratings agencies. 5. Modelling long-term relationships between prices and exchange rates . | Chapter 1 Introduction Introductory Econometrics for Finance © Chris Brooks 2014 Introductory Econometrics for Finance Copyright 2002, Chris Brooks The Nature and Purpose of Econometrics What is Econometrics? Literal meaning is “measurement in economics”. Definition of financial econometrics: The application of statistical and mathematical techniques to problems in finance. Introductory Econometrics for Finance © Chris Brooks 2014 Introductory Econometrics for Finance Copyright 2002, Chris Brooks Examples of the kind of problems that may be solved by an Econometrician 1. Testing whether financial markets are weak-form informationally efficient. 2. Testing whether the CAPM or APT represent superior models for the determination of returns on risky assets. 3. Measuring and forecasting the volatility of bond returns. 4. Explaining the determinants of bond credit ratings used by the ratings agencies. 5. Modelling long-term relationships between prices and exchange rates Introductory Econometrics for Finance © Chris Brooks 2014 Examples of the kind of problems that may be solved by an Econometrician (cont’d) 6. Determining the optimal hedge ratio for a spot position in oil. 7. Testing technical trading rules to determine which makes the most money. 8. Testing the hypothesis that earnings or dividend announcements have no effect on stock prices. 9. Testing whether spot or futures markets react more rapidly to news. the correlation between the returns to the stock indices of two countries. Introductory Econometrics for Finance © Chris Brooks 2014 What are the Special Characteristics of Financial Data? Frequency & quantity of data Stock market prices are measured every time there is a trade or somebody posts a new quote. Quality Recorded asset prices are usually those at which the transaction took place. No possibility for measurement error but financial data are “noisy”. Introductory Econometrics for Finance © Chris Brooks 2014
