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Measuring the Predictable Variation in Stock and Bond Returns

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Author Info
Kirby, Chris

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Abstract

Recent studies show that when a regression model is used to forecast stock and bond returns, the sample R [superscript 2] increases dramatically with the length of the return horizon. These studies argue, therefore, that long-horizon returns are highly predictable. This article presents evidence that suggests otherwise. Long-horizon regressions can easily yield large values of the sample R [superscript 2], even if the population R [superscript 2] is small or zero. Moreover, long-horizon regressions with a small or zero population R [superscript 2] can produce t-ratios that might be interpreted as evidence of strong predictability. In general, the analysis provides little support for the view that long-horizon returns are highly predictable. Article published by Oxford University Press on behalf of the Society for Financial Studies in its journal, The Review of Financial Studies.

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Publisher Info
Article provided by Oxford University Press for Society for Financial Studies in its journal Review of Financial Studies.

Volume (Year): 10 (1997)
Issue (Month): 3 ()
Pages: 579-630
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Handle: RePEc:oup:rfinst:v:10:y:1997:i:3:p:579-630

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  3. Kilian, Lutz, 1999. "Exchange Rates and Monetary Fundamentals: What Do We Learn from Long-Horizon Regressions?," Journal of Applied Econometrics, John Wiley & Sons, Ltd., vol. 14(5), pages 491-510, Sept.-Oct. [Downloadable!]
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  8. John Y. Campbell & Robert J. Shiller, 2001. "Valuation Ratios and the Long-run Stock Market Outlook: An Update," Cowles Foundation Discussion Papers 1295, Cowles Foundation, Yale University. [Downloadable!]
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  10. GIOT, Pierre & PETITJEAN, Mikael, 2006. "International stock return predictability: statistical evidence and economic significance," CORE Discussion Papers 2006088, Université catholique de Louvain, Center for Operations Research and Econometrics (CORE). [Downloadable!]
  11. Elizaveta Krylova & Lorenzo Cappiello & Roberto A. De Santis, 2005. "Explaining exchange rate dynamics - the uncovered equity return parity condition," Working Paper Series 529, European Central Bank. [Downloadable!]
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  13. Andrew Ang & Geert Bekaert, 2001. "Stock Return Predictability: Is it There?," NBER Working Papers 8207, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
  14. Neil Kellard & John Nankervis & Fotis Papadimitriou, 2007. "Predicting the UK Equity Premium with Dividend Ratios: An Out-Of-Sample Recursive Residuals Graphical Approach," Money Macro and Finance (MMF) Research Group Conference 2006 129, Money Macro and Finance Research Group. [Downloadable!]
  15. Vaihekoski, Mika, 1998. "Short-term returns and the predictability of Finnish stock returns," MPRA Paper 13984, University Library of Munich, Germany. [Downloadable!]
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  16. Robert J. Shiller, 1998. "Human Behavior and the Efficiency of the Financial System," NBER Working Papers 6375, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
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  17. Jacob Boudoukh & Matthew Richardson & Robert Whitelaw, 2005. "The Myth of Long-Horizon Predictability," NBER Working Papers 11841, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
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