Efficiently Inefficient by Lasse Heje Pedersen

Author:Lasse Heje Pedersen
Language: eng
Format: epub
Publisher: Princeton University Press
Published: 2015-11-15T00:00:00+00:00

10.2. MARKET TIMING AND TACTICAL ASSET ALLOCATION

Market Timing

Market timing means choosing the size of the overall long or short position in a market. For instance, an investor seeking to time the equity market asks herself whether she thinks that stocks in general are going to go up or down. The timing decision can be based on both qualitative and quantitative inputs. It might be based on views on what the central bank is doing or the investor’s interpretation of the recent indicators from economic news releases (e.g., the employment situation).

Market timing rules can be analyzed using regressions and backtests (as also discussed in chapter 3). To be specific, let us consider how one might time the equity market based on the dividend yield. To understand why this might work, recall that equity returns consist of the dividend yield plus the capital appreciation:

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