Efficient Tests of Stock Return Predictability

56 Pages Posted: 23 Oct 2002 Last revised: 17 Jun 2009

John Y. Campbell

Harvard University - Department of Economics; National Bureau of Economic Research (NBER)

Motohiro Yogo

Princeton University - Department of Economics; National Bureau of Economic Research

Multiple version iconThere are 2 versions of this paper

Date Written: September 20, 2005

Abstract

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

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

John Y. Campbell

Harvard University - Department of Economics ( email )

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HOME PAGE: http://scholar.harvard.edu/campbell

National Bureau of Economic Research (NBER)

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Motohiro Yogo (Contact Author)

Princeton University - Department of Economics ( email )

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United States

HOME PAGE: http://sites.google.com/site/motohiroyogo/

National Bureau of Economic Research

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Cambridge, MA 02138
United States

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