A New Formula for the Expected Excess Return of the Market

Key to deriving the lower bound to the expected excess return of the market in Martin (2017) is the assumption of the negative correlation condition (NCC). We improve on the lower bound characterization by proposing an exact formula for the conditional expected excess return of the market. In our formula, each risk-neutral return central moment contributes to the expected excess return and is representable in terms of known option prices. To interpret theoretical and empirical distinctions between our formula and the lower bound, we develop and study the asset-pricing restrictions of the NCC.

Keywords: expected excess return of the market, negative correlation condition, lower bound, market risk premium

JEL Classification: G11, G12, G13

Suggested Citation: Suggested Citation

Bakshi, Gurdip S. and Crosby, John and Gao, Xiaohui and Zhou, Wei, A New Formula for the Expected Excess Return of the Market (September 1, 2019). Fox School of Business Research Paper, Available at SSRN: https://ssrn.com/abstract=3464298 or http://dx.doi.org/10.2139/ssrn.3464298