56 Pages Posted: 23 Oct 2002 Last revised: 17 Jun 2009
Date Written: September 20, 2005
Conventional tests of the predictability of stock returns could be invalid, that is reject the null too frequently, when the predictor variable is persistent and its innovations are highly correlated with returns. We develop a pretest to determine whether the conventional t-test leads to invalid inference and an efficient test of predictability that corrects this problem. Although the conventional t-test is invalid for the dividend-price and smoothed earnings-price ratios, our test finds evidence for predictability. We also find evidence for predictability with the short rate and the long-short yield spread, for which the conventional t-test leads to valid inference.
Keywords: Bonferroni test, Dividend yield, Predictability, Stock returns, Unit root
JEL Classification: C12, C22, G1
Suggested Citation: Suggested Citation
Campbell, John Y. and Yogo, Motohiro, Efficient Tests of Stock Return Predictability (September 20, 2005). Journal of Financial Economics (JFE), Vol. 81, No. 1, 2006. Available at SSRN: https://ssrn.com/abstract=343782 or http://dx.doi.org/10.2139/ssrn.343782