How Cyclical Are Stock Market Return Expectations? Evidence from Capital Market Assumptions

49 Pages Posted: 14 Jan 2021 Last revised: 5 Apr 2021

See all articles by Magnus Dahlquist

Magnus Dahlquist

Stockholm School of Economics; Swedish House of Finance

Markus Ibert

Board of Governors of the Federal Reserve System; Swedish House of Finance

Date Written: March 2021

Abstract

We collect return expectations from the capital market assumptions of asset management firms that manage a combined USD 21.6 trillion in 2020. Consistent with leading rational expectations asset pricing models, asset managers' subjective equity premium expectations are high when valuations are low and low when valuations are high (countercyclical), and the term structure of subjective equity premium expectations is downward sloping when valuations are low and upward sloping when valuations are high (procyclical). As U.S. equity valuations increased over the last decade, the ten-year expected U.S. equity premium declined from 4.3% per year at the beginning of the decade to 3.4% per year at the end of the decade and temporarily spiked by 2.4 percentage points during the COVID-19 induced market sell off in March 2020.

Keywords: Expectations formation, stock market expectations, asset management

JEL Classification: G00, G12, G23

Suggested Citation

Dahlquist, Magnus and Ibert, Markus, How Cyclical Are Stock Market Return Expectations? Evidence from Capital Market Assumptions (March 2021). Swedish House of Finance Research Paper No. 21-1, Available at SSRN: https://ssrn.com/abstract=3763796 or http://dx.doi.org/10.2139/ssrn.3763796

Magnus Dahlquist

Stockholm School of Economics ( email )

Drottninggatan 98
Stockholm, SE-111 60
Sweden

Swedish House of Finance ( email )

Drottninggatan 98
111 60 Stockholm
Sweden

Markus Ibert (Contact Author)

Board of Governors of the Federal Reserve System ( email )

20th Street and Constitution Avenue NW
Washington, DC 20551
United States

Swedish House of Finance ( email )

Drottninggatan 98
Stockholm, 11160
Sweden

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