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Returns on Cyclical and Defensive Stocks in Times of Scarce Information about the Business Cycle

43 Pages Posted: 12 Jun 2012 Last revised: 10 Apr 2013

Nicole Branger

University of Muenster - Finance Center Muenster

Patrick Konermann

BI Norwegian Business School

Julian Thimme

Goethe University Frankfurt - House of Finance

Date Written: March 28, 2013

Abstract

We study the implications of the quality of information about the business cycle for the pricing of defensive and cyclical stocks in a general equilibrium framework. We rely on a two-tree Lucas-style endowment economy in which the business cycle is modeled as an unobservable mean reverting process that influences one of the two assets. The representative Epstein-Zin investor learns about the latent business cycle variable from past dividends and from an additional signal. We find that expected excess returns on both cyclical and defensive stocks increase when information quality deteriorates, i.e. when the signal becomes more noisy. Variance reacts in an asymmetric way: a lower information quality induces a higher return variance of cyclical stocks and a lower return variance of defensive stocks. These findings are in line with stylized facts from the data when we use the dispersion in analysts' GDP forecasts as a measure for information quality.

Keywords: Asset Pricing, Epstein-Zin utility, Lucas Orchard, Learning, Information Quality

JEL Classification: G12

Suggested Citation

Branger, Nicole and Konermann, Patrick and Thimme, Julian, Returns on Cyclical and Defensive Stocks in Times of Scarce Information about the Business Cycle (March 28, 2013). Available at SSRN: https://ssrn.com/abstract=2082488 or http://dx.doi.org/10.2139/ssrn.2082488

Nicole Branger

University of Muenster - Finance Center Muenster ( email )

Universitatsstr. 14-16
Muenster, 48143
Germany
+49 251 83 29779 (Phone)
+49 251 83 22867 (Fax)

HOME PAGE: http://www.wiwi.uni-muenster.de/fcm/fcm/das-finance-center/details.php?weobjectID=162

Patrick Konermann (Contact Author)

BI Norwegian Business School ( email )

Nydalsveien 37
Oslo, 0442
Norway

Julian Thimme

Goethe University Frankfurt - House of Finance ( email )

Theodor-W.-Adorno-Platz 3
Frankfurt am Main, 60323
Germany

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