Efficient Tests of Stock Return Predictability

57 Pages Posted: 14 Oct 2003 Last revised: 28 Aug 2009

See all articles by John Y. Campbell

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: October 2003

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.

Suggested Citation

Campbell, John Y. and Yogo, Motohiro, Efficient Tests of Stock Return Predictability (October 2003). NBER Working Paper No. w10026. Available at SSRN: https://ssrn.com/abstract=457548

John Y. Campbell (Contact Author)

Harvard University - Department of Economics ( email )

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Motohiro Yogo

Princeton University - Department of Economics ( email )

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

National Bureau of Economic Research

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