Estimating Sharpe ratio function in the presence of measurement error

In financial econometrics, the Sharpe ratio function serves as a gold standard to measure the return-to-risk ratio for comparing different assets or trading strategies. In the recent literature, several methods have been developed to directly or indirectly estimate the Sharpe ratio function, yet none of them apply to the scenario where the covariates are measured with error. To handle this problem, we propose a new method by incorporating the local polynomial smoothing and SIMEX to simultaneously estimate the Sharpe ratio function and the negative log-volatility function in the presence of measurement error. The asymptotic bias and variance of the proposed estimators are also derived under some regularity conditions. We further conduct Monte Carlo simulations to evaluate the finite sample performance, and apply two real data examples to illustrate the usefulness of our new method.

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Publication Details

Journal
Communication in Statistics- Theory and Methods
Published
2025-01-09
DOI
https://doi.org/10.1080/03610926.2024.2444501
Primary Topic
Financial Risk and Volatility Modeling
Type
article
Field-Weighted Citation Impact
0.00

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article

Estimating Sharpe ratio function in the presence of measurement error

Tiejun Tong, Riquan Zhang, Hongmei Lin, Wenchao Xu et al.
Communication in Statistics- Theory and Methods
Financial Risk and Volatility Modeling
article

Estimating Sharpe ratio function in the presence of measurement error

Tiejun Tong, Riquan Zhang, Hongmei Lin, Wenchao Xu, Shaodong Zhang
article en

Abstract

In financial econometrics, the Sharpe ratio function serves as a gold standard to measure the return-to-risk ratio for comparing different assets or trading strategies. In the recent literature, several methods have been developed to directly or indirectly estimate the Sharpe ratio function, yet none of them apply to the scenario where the covariates are measured with error. To handle this problem, we propose a new method by incorporating the local polynomial smoothing and SIMEX to simultaneously estimate the Sharpe ratio function and the negative log-volatility function in the presence of measurement error. The asymptotic bias and variance of the proposed estimators are also derived under some regularity conditions. We further conduct Monte Carlo simulations to evaluate the finite sample performance, and apply two real data examples to illustrate the usefulness of our new method.

Communication in Statistics- Theory and MethodsVol. 54(18)
Hong Kong Baptist University (HK), Shanghai University of International Business and Economics (CN)
National Natural Science Foundation of China
Decent work and economic growth
Openalex Percentile: Top 99%
Financial Risk and Volatility Modeling
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