Return Dispersion and the Predictability of Stock Returns
48 Pages Posted: 17 Jan 2012 Last revised: 28 Aug 2013
Date Written: August 27, 2013
This paper analyzes whether stock return dispersion (cross-sectional variance of equity portfolio returns) provides useful information about future stock returns, both at the aggregate and portfolio levels. Return dispersion consistently forecasts a decline in the (excess) stock market return, and compares favorably with alternative predictors. Furthermore, return dispersion outperforms the alternative variables in forecasting the (excess) market return out-of-sample. The results from both in-sample and out-of-sample regressions show that return dispersion has greater forecasting power for large and growth stocks compared to small and value stocks, respectively. Return dispersion also helps to forecast stock market volatility at short horizons.
Keywords: asset pricing, return dispersion;\, predictability of stock returns, out-of-sample predictability, stock market volatility, size, value, and momentum anomalies
JEL Classification: G12, G14, G17
Suggested Citation: Suggested Citation