A bilinear paradigm test of the Arbitrage Pricing Theory

Abstract

The APT is estimated using a set of five economic variables: industrial production, the term structure of interest rates, default risk premium, inflation and the value-weighted market portfolio. Non-zero risk premia are found for all the factors. The bilinear paradigm test suggests that these variables are correctly hypothesized. From the perspective of domestic capital markets, there does not seem to be any difference between the sources of systematic risk for the small, open economy of Canada and the relatively large and less open economy of the U.S.