Revisiting dividend yield dynamics and returns predictability: Evidence from a time-varying ESTR model
AbstractSince the bubble of the late 1990s the dividend yield appears non-stationary indicating the breakdown of the equilibrium relationship between prices and dividends. Two lines of research have developed in order to explain this apparent breakdown. First, that the dividend yield is better characterised as a non-linear process and second, that it is subject to mean level shifts. This paper jointly models both of these characteristics by allowing non-linear reversion to a changing mean level. Results support stationarity of this model for eight international dividend yield series. This model is than applied to the forecast of monthly stock returns. Evidence supports our time-varying non-linear model over linear alternatives, particularly so on the basis of an out-of-sample R-squared measure and a trading rule exercise. More detailed examination of the trading rule measure suggests that investors could obtain positive returns, as the model forecasts do not imply excessive trading such that costs would not outweigh returns. Finally, the superior performance of the non-linear model largely arises from its ability to forecast negative returns, whereas linear models are unable to do.
Download InfoIf you experience problems downloading a file, check if you have the proper application to view it first. In case of further problems read the IDEAS help page. Note that these files are not on the IDEAS site. Please be patient as the files may be large.
As the access to this document is restricted, you may want to look for a different version under "Related research" (further below) or search for a different version of it.
Bibliographic InfoArticle provided by Elsevier in its journal The Quarterly Review of Economics and Finance.
Volume (Year): 49 (2009)
Issue (Month): 3 (August)
Contact details of provider:
Web page: http://www.elsevier.com/locate/inca/620167
Dividend yield Returns predictability Forecasting Time-varying ESTR model;
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
- Serena Ng & Pierre Perron, 2001.
"LAG Length Selection and the Construction of Unit Root Tests with Good Size and Power,"
Econometric Society, vol. 69(6), pages 1519-1554, November.
- Serena Ng & Pierre Perron, 1997. "Lag Length Selection and the Construction of Unit Root Tests with Good Size and Power," Boston College Working Papers in Economics 369, Boston College Department of Economics, revised 01 Sep 2000.
- Kanas, Angelos, 2005. "Nonlinearity in the stock price-dividend relation," Journal of International Money and Finance, Elsevier, vol. 24(4), pages 583-606, June.
- Dumas, Bernard, 1992. "Dynamic Equilibrium and the Real Exchange Rate in a Spatially Separated World," Review of Financial Studies, Society for Financial Studies, vol. 5(2), pages 153-80.
- Fama, Eugene F. & French, Kenneth R., 1988. "Dividend yields and expected stock returns," Journal of Financial Economics, Elsevier, vol. 22(1), pages 3-25, October.
- Lundbergh, Stefan & Terasvirta, Timo & van Dijk, Dick, 2003.
"Time-Varying Smooth Transition Autoregressive Models,"
Journal of Business & Economic Statistics,
American Statistical Association, vol. 21(1), pages 104-21, January.
- Lundbergh, Stefan & Teräsvirta, Timo & van Dijk, Dick, 2000. "Time-Varying Smooth Transition Autoregressive Models," Working Paper Series in Economics and Finance 376, Stockholm School of Economics.
- Kapetanios, George & Shin, Yongcheol & Snell, Andy, 2003. "Testing for a unit root in the nonlinear STAR framework," Journal of Econometrics, Elsevier, vol. 112(2), pages 359-379, February.
- Campbell, John & Yogo, Motohiro, 2006.
"Efficient tests of stock return predictability,"
3122601, Harvard University Department of Economics.
- John Y. Campbell & Motohiro Yogo, 2002. "Efficient Tests of Stock Return Predictability," Harvard Institute of Economic Research Working Papers 1972, Harvard - Institute of Economic Research.
- John Y. Campbell & Motohiro Yogo, 2003. "Efficient Tests of Stock Return Predictability," NBER Working Papers 10026, National Bureau of Economic Research, Inc.
- Froot, Kenneth A & Obstfeld, Maurice, 1991.
"Intrinsic Bubbles: The Case of Stock Prices,"
American Economic Review,
American Economic Association, vol. 81(5), pages 1189-214, December.
- Jushan Bai & Pierre Perron, 2003.
"Computation and analysis of multiple structural change models,"
Journal of Applied Econometrics,
John Wiley & Sons, Ltd., vol. 18(1), pages 1-22.
- Tom Doan, . "RATS programs to replicate examples of Bai-Perron procedure," Statistical Software Components RTZ00008, Boston College Department of Economics.
- Tom Doan, . "MULTIPLEBREAKS: RATS procedure to perform multiple structural change analysis," Statistical Software Components RTS00138, Boston College Department of Economics.
- Tom Doan, . "BAIPERRON: RATS procedure to perform Bai-Perron Test for Multiple Structural Changes," Statistical Software Components RTS00013, Boston College Department of Economics.
- BAI, Jushan & PERRON, Pierre, 1998. "Computation and Analysis of Multiple Structural-Change Models," Cahiers de recherche 9807, Universite de Montreal, Departement de sciences economiques.
- Owen Lamont, 1996.
"Earnings and Expected Returns,"
NBER Working Papers
5671, National Bureau of Economic Research, Inc.
- Mark E. Wohar & David E. Rapach, 2005. "Valuation ratios and long-horizon stock price predictability," Journal of Applied Econometrics, John Wiley & Sons, Ltd., vol. 20(3), pages 327-344.
- Blanchard, Olivier Jean, 1979. "Speculative bubbles, crashes and rational expectations," Economics Letters, Elsevier, vol. 3(4), pages 387-389.
- John H. Cochrane, 2008.
"The Dog That Did Not Bark: A Defense of Return Predictability,"
Review of Financial Studies,
Society for Financial Studies, vol. 21(4), pages 1533-1575, July.
- John H. Cochrane, 2006. "The Dog That Did Not Bark: A Defense of Return Predictability," NBER Working Papers 12026, National Bureau of Economic Research, Inc.
- Hall, Stephen G & Psaradakis, Zacharias & Sola, Martin, 1999. "Detecting Periodically Collapsing Bubbles: A Markov-Switching Unit Root Test," Journal of Applied Econometrics, John Wiley & Sons, Ltd., vol. 14(2), pages 143-54, March-Apr.
- Van Norden, S. & Schaller, H., 1996.
"Speculative Behaviour, Regime-Switching and Stock Market Crashes,"
96-13, Bank of Canada.
- Simon van Norden & Huntley Schaller & ), 1995. "Speculative Behaviour, Regime-Switching, and Stock Market Crashes," Econometrics 9502003, EconWPA.
- Eugene F. Fama & Kenneth R. French, 2002.
"The Equity Premium,"
Journal of Finance,
American Finance Association, vol. 57(2), pages 637-659, 04.
- John Y. Campbell & Robert J. Shiller, 1988.
"Stock Prices, Earnings and Expected Dividends,"
NBER Working Papers
2511, National Bureau of Economic Research, Inc.
- Campbell, John & Shiller, Robert, 1988. "Stock Prices, Earnings, and Expected Dividends," Scholarly Articles 3224293, Harvard University Department of Economics.
- John Y. Campbell & Robert J. Shiller, 1988. "Stock Prices, Earnings and Expected Dividends," Cowles Foundation Discussion Papers 858, Cowles Foundation for Research in Economics, Yale University.
- Campbell, J.Y. & Shiller, R.J., 1988. "Stock Prices, Earnings And Expected Dividends," Papers 334, Princeton, Department of Economics - Econometric Research Program.
- Lanne, M., 2000.
"Testing the Predictability of Stock Returns,"
University of Helsinki, Department of Economics
488, Department of Economics.
- Bohl, Martin T. & Siklos, Pierre L., 2004. "The present value model of U.S. stock prices redux: a new testing strategy and some evidence," The Quarterly Review of Economics and Finance, Elsevier, vol. 44(2), pages 208-223, May.
- Chris Brooks & Apostolos Katsaris, 2003. "Rational Speculative Bubbles: An Empirical Investigation of the London Stock Exchange," Bulletin of Economic Research, Wiley Blackwell, vol. 55(4), pages 319-346, October.
- van Norden Simon & Vigfusson Robert, 1998. "Avoiding the Pitfalls: Can Regime-Switching Tests Reliably Detect Bubbles?," Studies in Nonlinear Dynamics & Econometrics, De Gruyter, vol. 3(1), pages 1-24, April.
- Wolf, Michael, 2000. "Stock Returns and Dividend Yields Revisited: A New Way to Look at an Old Problem," Journal of Business & Economic Statistics, American Statistical Association, vol. 18(1), pages 18-30, January.
- Kapetanios, George & Shin, Yongcheol & Snell, Andy, 2006. "Testing For Cointegration In Nonlinear Smooth Transition Error Correction Models," Econometric Theory, Cambridge University Press, vol. 22(02), pages 279-303, April.
- David McMillan, 2007. "Structural breaks in financial ratios: evidence for nine international markets," Applied Financial Economics Letters, Taylor and Francis Journals, vol. 3(6), pages 381-384.
- Nathan S. Balke & Mark E. Wohar, 2002.
"Low-Frequency Movements in Stock Prices: A State-Space Decomposition,"
The Review of Economics and Statistics,
MIT Press, vol. 84(4), pages 649-667, November.
- Nathan S. Balke & Mark E. Wohar, 2001. "Low frequency movements in stock prices: a state space decomposition," Working Papers 0001, Federal Reserve Bank of Dallas.
- Shleifer, Andrei, 2000. "Inefficient Markets: An Introduction to Behavioral Finance," OUP Catalogue, Oxford University Press, number 9780198292272, September.
- Evans, George W, 1991. "Pitfalls in Testing for Explosive Bubbles in Asset Prices," American Economic Review, American Economic Association, vol. 81(4), pages 922-30, September.
- Andrew Ang & Geert Bekaert, 2001. "Stock Return Predictability: Is it There?," NBER Working Papers 8207, National Bureau of Economic Research, Inc.
- McMillan, David G., 2007. "Bubbles in the dividend-price ratio? Evidence from an asymmetric exponential smooth-transition model," Journal of Banking & Finance, Elsevier, vol. 31(3), pages 787-804, March.
- Vicente Esteve & Manuel Navarro-Ibáñez & María A. Prats, 2013.
"The present value model of U.S. stock prices revisited: long-run evidence with structural breaks, 1871-2010,"
13-04, Asociación Española de Economía y Finanzas Internacionales.
- Vicente Esteve & Manuel Navarro-Ibáñez & María A. Prats, 2013. "The present value model of US stock prices revisited: long-run evidence with structural breaks, 1871-2010," Working Papers 04/13, Instituto Universitario de Análisis Económico y Social.
- Vicente Esteve & Manuel Navarro-Ibáñez & María A. Prats, 2013. "The present value model of U.S. stock prices revisited: long-run evidence with structural breaks, 1871-2010," Working Papers 1305, Department of Applied Economics II, Universidad de Valencia.
- Adelina Gschwandtner & Michael Hauser, 2013. "Profit Persistence and Stock Returns," Studies in Economics 1320, Department of Economics, University of Kent.
For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Zhang, Lei).
If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.
If references are entirely missing, you can add them using this form.
If the full references list an item that is present in RePEc, but the system did not link to it, you can help with this form.
If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your profile, as there may be some citations waiting for confirmation.
Please note that corrections may take a couple of weeks to filter through the various RePEc services.