Abstract
We propose a theoretical framework for constructing a market proxy that corresponds to the “market portfolio” of financial theory. We construct this proxy, analyze its determinants and test its efficiency and explanatory power over the period 1974-2003 with respect to the return generating processes of a broad asset universe. We show that its major determinants are traded assets and, although it is not efficient, it contains significant incremental information for explaining asset returns beyond what is available in traded asset prices and that the significance of this information is robust with respect to the Fama-French (1992) model for stocks.
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