A factor model of seasonality in stock returns

Abstract

Most empirical evidence on stock market seasonality is based on the Dummy Variable Approach (DVA). Typically, the DVA leaves too much variability of stock returns unexplained and inference usually leads to weak or null evidence in favor of seasonality. In this paper, we propose an extended DVA (EDVA) which leaves a lower fraction of stock return variability unexplained. We provide empirical evidence on daily seasonality in the Spanish stock market. Inference based on the EDVA finds positive and significant Monday and Friday effects and negative and significant Wednesday and Thursday effects. Extending the analysis to a model with GARCH conditional variances confirms these results and shows heavy daily seasonality in conditional variances.