The likelihood ratio test for structural changes in factor models
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Abstract: A factor model with a break in its factor loadings is observationally equivalent to a model without changes in the loadings but a change in the variance of its factors. This effectively transforms a structural change problem of high dimension into a problem of low dimension. This paper considers the likelihood ratio (LR) test for a variance change in the estimated factors. The LR test implicitly explores a special feature of the estimated factors: the pre-break and post-break variances can be a singular matrix under the alternative hypothesis, making the LR test diverging faster and thus more powerful than Wald-type tests. The better power property of the LR test is also confirmed by simulations. We also consider mean changes and multiple breaks. We apply the procedure to the factor modelling and structural change of the US employment using monthly industry-level-data.
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Cited in
(5)- Moving sum procedure for multiple change point detection in large factor models
- Online change-point detection for matrix-valued time series with latent two-way factor structure
- Online monitoring variance change in a linear regression model with long-memory errors
- Detection of multiple structural changes in matrix factor models
- A robust residual-based test for structural changes in factor models
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