Essay Questions
- Discuss the critical trade-offs between model complexity, sample size, and forecasting performance in financial econometrics. Incorporate the concepts of overfitting, the use of penalty functions like AIC and BIC, and the general scarcity of financial data.
- Compare and contrast the Ordinary Least Squares (OLS), Weighted Least Squares (WLS), and Generalized Least Squares (GLS) estimation methods. Describe the specific assumptions about the regression’s error term under which each method is considered the most appropriate estimator.
- Explain the key differences between Factor Analysis and Principal Components Analysis (PCA). Address their distinct objectives, underlying assumptions (or lack thereof), and the nature of their outputs (unobserved factors vs. observable principal components).
- Describe the three-phase quantitative research process for developing an investment strategy as outlined in the source. Elaborate on the common fallacies and potential biases, such as data snooping and survivorship bias, that a researcher must diligently control for throughout this process.
- What are the primary assumptions of the multiple linear regression model regarding its error terms? For each assumption (normality, constant variance, and independence), discuss the implications of its violation and describe a test or method mentioned in the text used to detect or address the issue.