University of Chicago - Booth School of Business
University of Chicago - Booth School of Business; Centre for Economic Policy Research (CEPR); National Bureau of Economic Research (NBER)
Columbia Business School; National Bureau of Economic Research (NBER)
Journal of Political Economy, Vol. 112, No. 1, Pt. 1, pp. 1-47, February 2004
We propose a general equilibrium model with multiple securities in which investors' risk preferences and expectations of dividend growth are time-varying. While time-varying risk preferences induce the standard positive relation between the dividend yield and expected returns, time-varying expected dividend growth induces a negative relation between them. These offsetting effects reduce the ability of the dividend yield to forecast returns and eliminate its ability to forecast dividend growth, as observed in the data. The model links the predictability of returns to that of dividend growth, suggesting specific changes to standard linear predictive regressions for both. The model's predictions are confirmed empirically.
Date posted: January 26, 2004