Characterizing Predictable Components in Excess Returns on Equity and Foreign Exchange Markets
48 Pages Posted: 28 Dec 2006 Last revised: 19 Jan 2009
Date Written: July 1991
The paper characterizes predictable components in excess rates of returns on major equity and foreign exchange markets using lagged excess returns, dividend yields, and forward premiums as instruments. Vector autoregressive techniques demonstrate one-step-ahead predictability and provide implied long-horizon statistics. We estimate latent variable models as constrained counterparts to the VARs. The predictability of returns is related to asset pricing models by examining the volatility bounds on intertemporal marginal rates of substitution.
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