A Simple Model for Time - Varying Expected Returns on the S&P 500 Index

Journal of Investment Management, Second Quarter 2009

Posted: 11 Nov 2009

See all articles by James Doran

James Doran

University of New South Wales

Ehud I. Ronn

University of Texas at Austin - Department of Finance

Robert S. Goldberg

Adelphi University - School of Business

Multiple version iconThere are 2 versions of this paper

Date Written: November 10, 2009

Abstract

This paper presents a parsimonious, implementable model for the estimation of the short-and long-term expected rates of return on the S&P 500 stock market Index. Sufficient statistics for the expected return on the S&P 500 Index consist of the risk-free rate of interest, the option market’s (priced) implied volatility on the S&P 500 Index, and a measure of the economy’s wealth level. The short-and long-term risk-free rates of interest reflect the impact of the level and slope of the risk-free term structure. The implied volatility captures a forward-looking measure of uncertainty. Utility-function assumed decreasing relative risk aversion gives rise to an increased willingness to invest in risky assets when current wealth level is “high.” The model’s empirical parameters are estimated using Livingston/Philadelphia Fed growth rates substituted into a dividend-discount model.

Keywords: Equity risk-premium, time-varying expected returns, conditional volatility

JEL Classification: 00

Suggested Citation

Doran, James and Ronn, Ehud I. and Goldberg, Robert S., A Simple Model for Time - Varying Expected Returns on the S&P 500 Index (November 10, 2009). Journal of Investment Management, Second Quarter 2009, Available at SSRN: https://ssrn.com/abstract=1503581

James Doran (Contact Author)

University of New South Wales ( email )

College Rd
Sydney, NSW 2052
Australia

Ehud I. Ronn

University of Texas at Austin - Department of Finance ( email )

Graduate School of Business
Austin, TX 78712
United States
512-471-5853 (Phone)
512-471-5073 (Fax)

Robert S. Goldberg

Adelphi University - School of Business

Garden City, NY 11530
United States

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