Abstract

http://ssrn.com/abstract=461363
 
 

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How to Discount Cashflows with Time-Varying Expected Returns


Andrew Ang


Columbia Business School - Finance and Economics; National Bureau of Economic Research (NBER)

Jun Liu


University of California, San Diego (UCSD) - Rady School of Management

October 2003

NBER Working Paper No. w10042

Abstract:     
While many studies document that the market risk premium is predictable and that betas are not constant, the dividend discount model ignores time-varying risk premiums and betas. We develop a model to consistently value cashflows with changing risk-free rates, predictable risk premiums and conditional betas in the context of a conditional CAPM. Practical valuation is accomplished with an analytic term structure of discount rates, with different discount rates applied to expected cashflows at different horizons. Using constant discount rates can produce large mis-valuations, which, in portfolio data, are mostly driven at short horizons by market risk premiums and at long horizons by time-variation in risk-free rates and factor loadings.

Number of Pages in PDF File: 44

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Date posted: October 27, 2003  

Suggested Citation

Ang, Andrew and Liu, Jun, How to Discount Cashflows with Time-Varying Expected Returns (October 2003). NBER Working Paper No. w10042. Available at SSRN: http://ssrn.com/abstract=461363

Contact Information

Andrew Ang (Contact Author)
Columbia Business School - Finance and Economics ( email )
3022 Broadway
New York, NY 10027
United States

National Bureau of Economic Research (NBER)
1050 Massachusetts Avenue
Cambridge, MA 02138
United States
Jun Liu
University of California, San Diego (UCSD) - Rady School of Management ( email )
9500 Gilman Drive
Rady School of Management
La Jolla, CA 92093
United States
858.534.2022 (Phone)
5858.534.0745 (Fax)
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