Question

Compare OLS with fixed effects, Fama Macbeth, and clustered standard error treatments for time and firm effects describe these effects using an example (preferably from the investments area)

Answer 1

OLS is a type of method for estimating the unknown parameters in a regression model.It chooses the parameters by the method of least squares.OLS is correlated to the dependent variables . Fixed effects on the other hand is a statistical model in which the parameters are fixed are non-random.It is a model in which the group means are fixed.Fixed effects is correlated with the independent variables.

The Fama-Macbeth method is used to estimate the parameters for CAPM(capital asset pricing model) models.This method estimates the betas and risk factor that are expected to determine the assets prices.

Clustered standard errors are measurements that estimate the standard error of a regression parameter in settings where observations may be subdivided into smaller-sized groups ("clusters") and where the sampling and/or treatment assignment is correlated within each group.

Time period effects are unexplained increases or decreases in the observed value for all individuals measured at a particular time point.The Fama-Macbeth method helps to measure the risk so that we can overcome the time period effects. Now, if we know the amount of risk involved we can accordingly take our investment decisions.