Equities Market Level
July 25, 2012
Equities have exhibited high returns relative to bonds and cash (bills) historically. The equity risk premium is a reward for bearing losses during bad times, where the risks of bad times are defined by low consumption growth, disasters, or long-run risks. Other investor characteristics including income and beliefs may also affect the equity risk premium. Equities have historically been a surprisingly poor hedge against inflation. While theory suggests that equity risk premiums are predictable, theory also suggests that the predictability is hard to detect statistically and this is verified empirically. Equity volatility, on the other hand, is much more predictable than equity risk premiums.
Number of Pages in PDF File: 49
Keywords: Equity premium, GARCH, Predictability, Habit, Long-run risk, Disasters, Heterogeneous agents, Spurious regression
JEL Classification: C13, C22, D51, E21, G12
Date posted: July 26, 2012