Use the data in VOLAT for this exercise. The variable rsp500 is the monthly return on the Standard &

Poor’s 500 stock market index, at an annual rate. (This includes price changes as well as dividends.)

The variable i3 is the return on three-month T-bills, and pcip is the percentage change in industrial production; these are also at an annual rate.

(i) Consider the equation rsp500t 5 b0 1 b1pcipt 1 b2i3t 1 ut

.

What signs do you think b1 and b2 should have?

(ii) Estimate the previous equation by OLS, reporting the results in standard form. Interpret the signs and magnitudes of the coefficients.

(iii) Which of the variables is statistically significant?

(iv) Does your finding from part (iii) imply that the return on the S&P 500 is predictable? Explain.