International Stock Return Predictability: What is the Role of the United States?
46 Pages Posted: 19 Nov 2009 Last revised: 23 May 2012
Date Written: May 22, 2012
We investigate lead-lag relationships among country stock returns and identify a leading role for the United States: lagged U.S. returns significantly predict returns in numerous non-U.S. industrialized countries (after controlling for national economic variables and countries' own lagged returns), while lagged non-U.S. returns display little predictive ability with respect to U.S. returns. The predictive power of lagged U.S. returns is robust across a number of dimensions, including out-of-sample tests. Information frictions seem a ready explanation of the predictive power of lagged U.S. returns; indeed, structural estimation of a news-diffusion model indicates that return shocks emanating in the United States are only fully reflected in equity prices outside of the United States with a lag. Overall, our results indicate that predictive regressions for non-U.S. countries should be augmented with lagged U.S. returns to capture an important source of international return predictability.
Keywords: Equity premium, Predictive regression model, Combination forecast, Information diffusion, Granger causality, Business cycle, Global financial crisis
JEL Classification: C22, C53, G14, G15, G17
Suggested Citation: Suggested Citation