IDEAS home Printed from https://ideas.repec.org/a/bla/jfinan/v47y1992i2p467-509.html
   My bibliography  Save this article

Characterizing Predictable Components in Excess Returns on Equity and Foreign Exchange Markets

Author

Listed:
  • Bekaert, Geert
  • Hodrick, Robert J

Abstract

This paper first characterizes the predictable components in excess rates of returns on major equity and foreign-exchange markets using lagged excess returns, dividend yields, and forward premiums as instruments. Vector autoregressions demonstrate one-step-ahead predictability and facilitate calculations of implied long-horizon statistics, such as variance ratios. Estimation of latent variable models then subjects the vector autoregressions to constraints derived from dynamic asset pricing theories. Examination of volatility bounds on intertemporal marginal rates of substitution provides summary statistics that quantify the challenge facing dynamic asset pricing models. Copyright 1992 by American Finance Association.

Suggested Citation

  • Bekaert, Geert & Hodrick, Robert J, 1992. "Characterizing Predictable Components in Excess Returns on Equity and Foreign Exchange Markets," Journal of Finance, American Finance Association, vol. 47(2), pages 467-509, June.
    • Handle: RePEc:bla:jfinan:v:47:y:1992:i:2:p:467-509
    as

    Download full text from publisher

    File URL: http://links.jstor.org/sici?sici=0022-1082%28199206%2947%3A2%3C467%3ACPCIER%3E2.0.CO%3B2-3&origin=repec
    File Function: full text
    Download Restriction: Access to full text is restricted to JSTOR subscribers. See http://www.jstor.org for details.
    ---><---

    As the access to this document is restricted, you may want to look for a different version below or search for a different version of it.

    Other versions of this item:

    References listed on IDEAS

    as
    1. Hansen, Lars Peter, 1982. "Large Sample Properties of Generalized Method of Moments Estimators," Econometrica, Econometric Society, vol. 50(4), pages 1029-1054, July.
    2. Andrew W. Lo, A. Craig MacKinlay, 1988. "Stock Market Prices do not Follow Random Walks: Evidence from a Simple Specification Test," The Review of Financial Studies, Society for Financial Studies, vol. 1(1), pages 41-66.
    3. Huizinga, John, 1987. "An empirical investigation of the long-run behavior of real exchange rates," Carnegie-Rochester Conference Series on Public Policy, Elsevier, vol. 27(1), pages 149-214, January.
    4. Keim, Donald B. & Stambaugh, Robert F., 1986. "Predicting returns in the stock and bond markets," Journal of Financial Economics, Elsevier, vol. 17(2), pages 357-390, December.
    5. Robert J. Shiller, 1984. "Stock Prices and Social Dynamics," Brookings Papers on Economic Activity, Economic Studies Program, The Brookings Institution, vol. 15(2), pages 457-510.
    6. Solnik, Bruno, 1983. "The Relation between Stock Prices and Inflationary Expectations: The International Evidence," Journal of Finance, American Finance Association, vol. 38(1), pages 35-48, March.
    7. Campbell, John Y, 1991. "A Variance Decomposition for Stock Returns," Economic Journal, Royal Economic Society, vol. 101(405), pages 157-179, March.
    8. King, Robert G. & Plosser, Charles I. & Stock, James H. & Watson, Mark W., 1991. "Stochastic Trends and Economic Fluctuations," American Economic Review, American Economic Association, vol. 81(4), pages 819-840, September.
    9. Ralph W. Tryon, 1979. "Testing for rational expectations in foreign exchange markets," International Finance Discussion Papers 139, Board of Governors of the Federal Reserve System (U.S.).
    10. Newey, Whitney & West, Kenneth, 2014. "A simple, positive semi-definite, heteroscedasticity and autocorrelation consistent covariance matrix," Applied Econometrics, Russian Presidential Academy of National Economy and Public Administration (RANEPA), vol. 33(1), pages 125-132.
    11. Harvey, Campbell R, 1991. "The World Price of Covariance Risk," Journal of Finance, American Finance Association, vol. 46(1), pages 111-157, March.
    12. Brunner, Karl & Meltzer, Allan H., 1987. "Empirical studies of velocity, real exchange rates, unemployment, and productivity," Carnegie-Rochester Conference Series on Public Policy, Elsevier, vol. 27(1), pages 1-8, January.
    13. Kenneth A. Froot, 1990. "Short Rates and Expected Asset Returns," NBER Working Papers 3247, National Bureau of Economic Research, Inc.
    14. John Y. Campbell, Robert J. Shiller, 1988. "The Dividend-Price Ratio and Expectations of Future Dividends and Discount Factors," The Review of Financial Studies, Society for Financial Studies, vol. 1(3), pages 195-228.
    15. Cochrane, John H, 1988. "How Big Is the Random Walk in GNP?," Journal of Political Economy, University of Chicago Press, vol. 96(5), pages 893-920, October.
    16. Fama, Eugene F. & Schwert, G. William, 1977. "Asset returns and inflation," Journal of Financial Economics, Elsevier, vol. 5(2), pages 115-146, November.
    17. Lucas, Robert Jr., 1982. "Interest rates and currency prices in a two-country world," Journal of Monetary Economics, Elsevier, vol. 10(3), pages 335-359.
    18. Cumby, Robert E., 1988. "Is it risk? : Explaining deviations from uncovered interest parity," Journal of Monetary Economics, Elsevier, vol. 22(2), pages 279-299, September.
    19. Mark, Nelson C., 1988. "Time-varying betas and risk premia in the pricing of forward foreign exchange contracts," Journal of Financial Economics, Elsevier, vol. 22(2), pages 335-354, December.
    20. Gallant, A. Ronald & Hansen, Lars Peter & Tauchen, George, 1990. "Using conditional moments of asset payoffs to infer the volatility of intertemporal marginal rates of substitution," Journal of Econometrics, Elsevier, vol. 45(1-2), pages 141-179.
    21. Gibbons, Michael R. & Ferson, Wayne, 1985. "Testing asset pricing models with changing expectations and an unobservable market portfolio," Journal of Financial Economics, Elsevier, vol. 14(2), pages 217-236, June.
    22. Wheatley, Simon M., 1989. "A critique of latent variable tests of asset pricing models," Journal of Financial Economics, Elsevier, vol. 23(2), pages 325-338, August.
    23. Gultekin, N Bulent, 1983. "Stock Market Returns and Inflation: Evidence from Other Countries," Journal of Finance, American Finance Association, vol. 38(1), pages 49-65, March.
    24. Giovannini, Alberto & Jorion, Philippe, 1987. "Interest rates and risk premia in the stock market and in the foreign exchange market," Journal of International Money and Finance, Elsevier, vol. 6(1), pages 107-123, March.
    25. Poterba, James M. & Summers, Lawrence H., 1988. "Mean reversion in stock prices : Evidence and Implications," Journal of Financial Economics, Elsevier, vol. 22(1), pages 27-59, October.
    26. Shmuel Kandel & Robert F. Stambaugh, "undated". "Modeling Expected Stock Returns for Long and Short Horizons," Rodney L. White Center for Financial Research Working Papers 42-88, Wharton School Rodney L. White Center for Financial Research.
    Full references (including those not matched with items on IDEAS)

    Most related items

    These are the items that most often cite the same works as this one and are cited by the same works as this one.
    1. Bernard Dumas, 1993. "Partial- vs general-equilibrium models of the international capital market," Working Papers hal-00610766, HAL.
    2. Dumas, Bernard & Solnik, Bruno, 1995. "The World Price of Foreign Exchange Risk," Journal of Finance, American Finance Association, vol. 50(2), pages 445-479, June.
    3. Campbell, John Y & Ammer, John, 1993. "What Moves the Stock and Bond Markets? A Variance Decomposition for Long-Term Asset Returns," Journal of Finance, American Finance Association, vol. 48(1), pages 3-37, March.
    4. Hardouvelis, Gikas A. & Kim, Dongcheol & Wizman, Thierry A., 1996. "Asset pricing models with and without consumption data: An empirical evaluation," Journal of Empirical Finance, Elsevier, vol. 3(3), pages 267-301, September.
    5. Campbell, John Y., 2001. "Why long horizons? A study of power against persistent alternatives," Journal of Empirical Finance, Elsevier, vol. 8(5), pages 459-491, December.
    6. Tim Bollerslev & Robert J. Hodrick, 1992. "Financial Market Efficiency Tests," NBER Working Papers 4108, National Bureau of Economic Research, Inc.
    7. Campbell, John Y, 1991. "A Variance Decomposition for Stock Returns," Economic Journal, Royal Economic Society, vol. 101(405), pages 157-179, March.
    8. Chunsheng Zhou, "undated". "Forecasting Long- and Short-Horizon Stock Returns in a Unified Framework," Finance and Economics Discussion Series 1996-04, Board of Governors of the Federal Reserve System (U.S.), revised 04 Dec 2019.
    9. John Campbell & Jianping Mei, 1993. "Where do Betas Come From? Asset Price Dynamics and the Sources of Systematic Risk," NBER Working Papers 4329, National Bureau of Economic Research, Inc.
    10. Canova, Fabio & Marrinan, Jane, 1995. "Predicting excess returns in financial markets," European Economic Review, Elsevier, vol. 39(1), pages 35-69, January.
    11. Kim Kaivanto & Peng Zhang, 2019. "Investor Sentiment as a Predictor of Market Returns," Working Papers 268005798, Lancaster University Management School, Economics Department.
    12. Sellin, Peter, 1998. "Monetary Policy and the Stock Market: Theory and Empirical Evidence," Working Paper Series 72, Sveriges Riksbank (Central Bank of Sweden).
    13. Qureshi, Fiza & Khan, Habib Hussain & Rehman, Ijaz Ur & Ghafoor, Abdul & Qureshi, Saba, 2019. "Mutual fund flows and investors’ expectations in BRICS economies: Implications for international diversification," Economic Systems, Elsevier, vol. 43(1), pages 130-150.
    14. Engel, Charles, 1996. "The forward discount anomaly and the risk premium: A survey of recent evidence," Journal of Empirical Finance, Elsevier, vol. 3(2), pages 123-192, June.
    15. John Y. Campbell & John Cochrane, 1999. "Force of Habit: A Consumption-Based Explanation of Aggregate Stock Market Behavior," Journal of Political Economy, University of Chicago Press, vol. 107(2), pages 205-251, April.
    16. T.J. Flavin & M.R. Wickens, 2003. "Macroeconomic influences on optimal asset allocation," Review of Financial Economics, John Wiley & Sons, vol. 12(2), pages 207-231.
    17. López Gaviria, José Ignacio, 2019. "Predictibilidad del mercado accionario colombiano," Revista Lecturas de Economía, Universidad de Antioquia, CIE, issue 91, pages 117-150, July.
    18. Maio, Paulo & Santa-Clara, Pedro, 2012. "Multifactor models and their consistency with the ICAPM," Journal of Financial Economics, Elsevier, vol. 106(3), pages 586-613.
    19. Peter Sellin, 2001. "Monetary Policy and the Stock Market: Theory and Empirical Evidence," Journal of Economic Surveys, Wiley Blackwell, vol. 15(4), pages 491-541, September.
    20. Tim Bollerslev & George Tauchen & Hao Zhou, 2009. "Expected Stock Returns and Variance Risk Premia," The Review of Financial Studies, Society for Financial Studies, vol. 22(11), pages 4463-4492, November.

    More about this item

    Statistics

    Access and download statistics

    Corrections

    All material on this site has been provided by the respective publishers and authors. You can help correct errors and omissions. When requesting a correction, please mention this item's handle: RePEc:bla:jfinan:v:47:y:1992:i:2:p:467-509. See general information about how to correct material in RePEc.

    If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

    If CitEc recognized a bibliographic reference but did not link an item in RePEc to it, you can help with this form .

    If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your RePEc Author Service profile, as there may be some citations waiting for confirmation.

    For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: Wiley Content Delivery (email available below). General contact details of provider: https://edirc.repec.org/data/afaaaea.html .

    Please note that corrections may take a couple of weeks to filter through the various RePEc services.

    IDEAS is a RePEc service. RePEc uses bibliographic data supplied by the respective publishers.