The Cross-Section and Time-Series of Stock and Bond Returns

68 Pages Posted: 1 Feb 2010  

Ralph S. J. Koijen

New York University (NYU) - Department of Finance; Centre for Economic Policy Research (CEPR); National Bureau of Economic Research (NBER)

Hanno N. Lustig

Stanford Graduate School of Business; National Bureau of Economic Research (NBER)

Stijn Van Nieuwerburgh

New York University Stern School of Business, Department of Finance; National Bureau of Economic Research (NBER); Centre for Economic Policy Research (CEPR)

Multiple version iconThere are 4 versions of this paper

Date Written: January 2010

Abstract

Value stocks have higher exposure to innovations in the nominal bond risk premium, which measures the markets' perception of cyclical variation in future output growth, than growth stocks. The ICAPM then predicts a value risk premium provided that good news about future output lowers the marginal utility of investors' wealth today. In support of the business cycle as a priced state variable, we show that low value minus growth returns, typically realized at the start of recessions when nominal bond risk premia are low and declining, are associated with lower future dividend growth rates on value minus growth and with lower future output growth in the short term. Because of this new nexus between stock and bond returns, a parsimonious three-factor model can jointly price the book-to-market stock and maturity-sorted bond portfolios and reproduce the time-series variation in expected bond returns. Structural dynamic asset pricing models need to impute a central role to the business cycle as a priced state variable to be quantitatively consistent with the observed value, equity, and nominal bond risk premia.

Suggested Citation

Koijen, Ralph S. J. and Lustig, Hanno N. and Van Nieuwerburgh, Stijn, The Cross-Section and Time-Series of Stock and Bond Returns (January 2010). NBER Working Paper No. w15688. Available at SSRN: https://ssrn.com/abstract=1544719

Ralph S. J. Koijen (Contact Author)

National Bureau of Economic Research (NBER) ( email )

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New York University (NYU) - Department of Finance ( email )

Stern School of Business
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HOME PAGE: http://www.koijen.net

Centre for Economic Policy Research (CEPR) ( email )

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Hanno N. Lustig

Stanford Graduate School of Business ( email )

Stanford GSB
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Stanford, CA California 94305-6072
United States
3108716532 (Phone)

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
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Stijn Van Nieuwerburgh

New York University Stern School of Business, Department of Finance ( email )

44 West 4th Street
Suite 9-190
New York, NY 10012-1126
United States

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Centre for Economic Policy Research (CEPR)

77 Bastwick Street
London, EC1V 3PZ
United Kingdom

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