McGraw-Hill

-2
1982 1983 1984 1985 1986 1987
180 selecting securities
FIGURE S 3
Forecasting Returns to Small Size
-
10
Cumulative Return
- 0.3 t,"',
1982 1983 1984 1985 1986 1987
results hold for the MAE and RMSE. The t-statistics are significant
for all six forecast steps, and decline gradually from 3.1 at step 1 to
2.0 at step 6. It is highly unlikely that the economic insight associated
with this approach occurred as a result of chance.
We used an "impulse" analysis to estimate the impact of each
macro driver on forecast returns. To consider the effect of an unexpected
increase in the corporate bond rate on forecast returns size, to
for example, we defined the magnitude of the rate increase to be 1
standard deviation, or one unit, of historical BAA interest rate volatility
and applied this one-unit BAA rate "shock" to the model?4
Figure 5-4 graphs the forecast return response of small size to
one-unit shocks in each of the six macro drivers. A shock in the BAA