An Improved Model for Understanding Equity Prices

13 Pages Posted: 20 Jul 2017

Date Written: June 16, 2017

Abstract

Central bank policymakers monitor equity prices, alongside a range of other asset prices, to support both their monetary and financial stability objectives.

A Dividend Discount Model (DDM) is a simple type of model that can be used to help understand past moves in equity prices. DDMs are based on the net present value relationship that relates equity prices to expected future shareholder payouts, risk-free interest rates and compensation for risk.

The Bank has recently improved its DDM. The revised model accounts for share buybacks and variation over time in long-term growth expectations. It also better captures the variation in risk-free interest rates across maturities.

Suggested Citation

Dison, Will and Rattan, Alex, An Improved Model for Understanding Equity Prices (June 16, 2017). Bank of England Quarterly Bulletin 2017 Q2. Available at SSRN: https://ssrn.com/abstract=3004457

Will Dison (Contact Author)

Bank of England ( email )

Threadneedle Street
London, EC2R 8AH
United Kingdom

Alex Rattan

Bank of England ( email )

Threadneedle Street
London, EC2R 8AH
United Kingdom

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