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Stock Prices, Earnings and Expected Dividends
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JOHN Y. CAMPBELL
Harvard University - Department of Economics; National Bureau of Economic Research (NBER)
ROBERT J. SHILLER
Yale University - Cowles Foundation; National Bureau of Economic Research (NBER); Yale University - International Center for Finance
April 1989
NBER Working Paper No. W2511
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Abstract:
This paper presents estimates indicating that, for aggregate U.S. stock market data 1871-1986, a long historical average of real earnings is a good predictor of the present value of future real dividends. This is true even when the information contained in stock prices is taken into account. We estimate that for each year the optimal forecast of the present value of future real dividends is roughly a weighted average of moving average earnings and current real price, with between 2/3 and 3/4 of the weight on the earnings measure. This means that simple present value models of stock market prices can be strongly rejected.
We use a vector autoregressive approach which enables us to compute the implications of this for the behavior of stock prices and returns. We estimate that log dividend-price ratios are more variable than, and virtually uncorrelated with, their theoretical counterparts given the present value models. Annual returns on stocks are quite highly correlated with their theoretical counterparts, but are two to four times as variable.
Our approach also reveals the connection between recent papers showing forecastability of long-horizon returns on corporate stocks, and earlier literature claiming that stock prices are too volatile to be accounted for in terms of simple present value models. We show that excess volatility directly implies the forecastability of long-horizon returns.
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JEL Classifications: 31
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Working Paper Series
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Suggested Citation
Campbell, John Y. and Shiller, Robert J., "Stock Prices, Earnings and Expected Dividends"
(April 1989).
NBER Working Paper No. W2511. Available at SSRN: http://ssrn.com/abstract=246866
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Contact Information for
JOHN
Y.
CAMPBELL
(Contact Author)
Email address for JOHN
Y.
CAMPBELL
Harvard University - Department of Economics
Littauer Center
Room 213
Cambridge
, MA
02138
United States
617-496-6448 (Phone)
617-495-7730 (Fax)
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(No e-mail address available for JOHN
Y.
CAMPBELL
National Bureau of Economic Research (NBER)
1050 Massachusetts Avenue
Cambridge
, MA
02138
United States
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Contact Information for
ROBERT
J.
SHILLER
Email address for ROBERT
J.
SHILLER
Yale University - Cowles Foundation
Box 208281
New Haven
, CT
06520-8281
United States
203-432-3708 (Phone)
203-432-6167 (Fax)
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Email address for ROBERT
J.
SHILLER
National Bureau of Economic Research (NBER)
1050 Massachusetts Avenue
Cambridge
, MA
02138
United States
203-432-3708 (Phone)
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Email address for ROBERT
J.
SHILLER
Yale University - International Center for Finance
Box 208200
New Haven
, CT
06520
United States
203-432-3708 (Phone)
203-432-6167 (Fax)
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