Equity Duration

Abstract

The concept of bond duration was originally introduced by Macaulay (1938) and nowadays is well- established in the fixed-income literature. In this paper, I lift the same concepts from the fixed-income asset class and apply them to equities. I derive three candidate models for estimating the duration of a stock. The models are vastly different in their theoretical underpinnings, yet there is strong empirical evidence of positive co-movements between all three models in my sample. Furthermore, I investigate the relationship between the equity duration factor and various common equity factors. Empirical evidence suggests that low-duration stocks are also high-value, high-profitability, low-investment and low-risk stocks. In particular, there is a strong link between duration and the classical value factor – both theoretically and empirically. Importantly, however, the correspondence between the two factors is not one-to-one in my sample. I perform numerous empirical tests suggesting that a duration strategy out-performed a value-strategy in the period following the Great Financial Crisis (2007–08).

Keywords: duration, asset pricing, cross-section of stock returns, factor model

JEL Classification: M41, G12, G14