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Business cycle variation in the risk-return trade-off

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  • Lustig, Hanno
  • Verdelhan, Adrien

Abstract

In the United States and other Organisation for Economic Co-operation and Development (OECD) countries, the expected returns on stocks, adjusted for volatility, are much higher in recessions than in expansions. We consider feasible trading strategies that buy or sell shortly after business cycle turning points that are identifiable in real time and involve holding periods of up to 1 year. The observed business cycle changes in expected returns are not spuriously driven by changes in expected near-term dividend growth. Our findings imply that value-maximizing managers face much higher risk-adjusted costs of capital in their investment decisions during recessions than expansions.

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Bibliographic Info

Article provided by Elsevier in its journal Journal of Monetary Economics.

Volume (Year): 59 (2012)
Issue (Month): S ()
Pages: S35-S49

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Handle: RePEc:eee:moneco:v:59:y:2012:i:s:p:s35-s49

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Web page: http://www.elsevier.com/locate/inca/505566

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Cited by:
  1. Fabian Irek & Thorsten Lehnert, 2013. "Do Fund Investors Know that Risk is Sometimes not Priced?," CREA Discussion Paper Series 13-1, Center for Research in Economic Analysis, University of Luxembourg.
  2. Fabian Irek & Thorsten Lehnert, 2013. "Do Fund Investors Know that Risk is Sometimes not Priced?," LSF Research Working Paper Series 13-1, Luxembourg School of Finance, University of Luxembourg.
  3. Michael Weber, 2014. "Nominal Rigidities and Asset Pricing," 2014 Meeting Papers, Society for Economic Dynamics 53, Society for Economic Dynamics.
  4. Adrien Verdelhan & Nicola Borri, 2010. "Sovereign Risk Premia," 2010 Meeting Papers 1122, Society for Economic Dynamics.
  5. Alfonso Mendoza-Velazquez & Peter N. Smith, 2012. "Equity Returns and the Business Cycle: The Role of Supply and Demand Shocks," Discussion Papers 12/36, Department of Economics, University of York.
  6. Siddiqi, Hammad, 2011. "Thinking by analogy, systematic risk, and option prices," MPRA Paper 31316, University Library of Munich, Germany.

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