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Long-Run Cash-Flow and Discount-Rate Risks in the Cross-Section of US Returns

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Author Info

  • Ekaterini Panopoulou

    (Department of Economics, National University of Ireland, Maynooth)

  • Koubouros, M.

    ()
    (University of Peloponnese, Department of Economics, Greece)

  • Malliaropulos, D.

    (Department of Banking and Financial Management, University of Piraeus, and National Bank of)

Abstract

This paper decomposes the overall market (CAPM) risk into parts re.ecting uncertainty related to the long-run dynamics of portfolio-speci.c and market cash .ows and discount rates. We decompose market betas into four sub-betas (as- sociated with assets.and market.s cash .ows and discount rates) and we employ a discrete time version of the I-CAPM to derive a four-beta model. The model performs well in pricing average returns on single- and double-sorted portfolios ac- cording to size, book-to-market, dividend-price ratios and past risk, by producing high estimates for the explained cross-sectional variation in average returns and economically and statistically acceptable estimates for the coe¢ cient of relative risk aversion.

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Bibliographic Info

Paper provided by Department of Economics, Finance and Accounting, National University of Ireland - Maynooth in its series Economics, Finance and Accounting Department Working Paper Series with number n1580505.

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Length: 32 pages
Date of creation: May 2005
Date of revision:
Handle: RePEc:may:mayecw:n1580505

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Postal: Maynooth, Co. Kildare
Phone: 353-1-7083728
Fax: 353-1-7083934
Web page: http://economics.nuim.ie
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Keywords: CAPM; cash-.ow risk; discount-rate risk; VAR-GARCH; BEKK; asset pricing;

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References

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  1. John Y. Campbell & Tuomo Vuolteenaho, 2003. "Bad Beta, Good Beta," NBER Working Papers 9509, National Bureau of Economic Research, Inc.
  2. Campbell, John Y, 1996. "Understanding Risk and Return," Journal of Political Economy, University of Chicago Press, vol. 104(2), pages 298-345, April.
  3. Fama, Eugene F & French, Kenneth R, 1992. " The Cross-Section of Expected Stock Returns," Journal of Finance, American Finance Association, vol. 47(2), pages 427-65, June.
  4. Epstein, Larry G & Zin, Stanley E, 1989. "Substitution, Risk Aversion, and the Temporal Behavior of Consumption and Asset Returns: A Theoretical Framework," Econometrica, Econometric Society, vol. 57(4), pages 937-69, July.
  5. Eugene F. Fama & Kenneth R. French, 2004. "The Capital Asset Pricing Model: Theory and Evidence," Journal of Economic Perspectives, American Economic Association, vol. 18(3), pages 25-46, Summer.
  6. Campbell, John Y, 1991. "A Variance Decomposition for Stock Returns," Economic Journal, Royal Economic Society, vol. 101(405), pages 157-79, March.
  7. John Y. Campbell & Robert J. Shiller, 1988. "Stock Prices, Earnings and Expected Dividends," NBER Working Papers 2511, National Bureau of Economic Research, Inc.
  8. George Chacko & Luis M. Viceira, 2005. "Dynamic Consumption and Portfolio Choice with Stochastic Volatility in Incomplete Markets," Review of Financial Studies, Society for Financial Studies, vol. 18(4), pages 1369-1402.
  9. Merton, Robert C, 1973. "An Intertemporal Capital Asset Pricing Model," Econometrica, Econometric Society, vol. 41(5), pages 867-87, September.
  10. Epstein, Larry G & Zin, Stanley E, 1991. "Substitution, Risk Aversion, and the Temporal Behavior of Consumption and Asset Returns: An Empirical Analysis," Journal of Political Economy, University of Chicago Press, vol. 99(2), pages 263-86, April.
  11. John Y. Campbell, 1992. "Intertemporal Asset Pricing Without Consumption Data," NBER Working Papers 3989, National Bureau of Economic Research, Inc.
  12. John Y. Campbell, 2002. "Consumption-Based Asset Pricing," Harvard Institute of Economic Research Working Papers 1974, Harvard - Institute of Economic Research.
  13. Scholes, Myron & Williams, Joseph, 1977. "Estimating betas from nonsynchronous data," Journal of Financial Economics, Elsevier, vol. 5(3), pages 309-327, December.
  14. 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.
  15. Bollerslev, Tim, 1986. "Generalized autoregressive conditional heteroskedasticity," Journal of Econometrics, Elsevier, vol. 31(3), pages 307-327, April.
  16. John Y. Campbell, Robert J. Shiller, 1988. "The Dividend-Price Ratio and Expectations of Future Dividends and Discount Factors," Review of Financial Studies, Society for Financial Studies, vol. 1(3), pages 195-228.
  17. William F. Sharpe, 1964. "Capital Asset Prices: A Theory Of Market Equilibrium Under Conditions Of Risk," Journal of Finance, American Finance Association, vol. 19(3), pages 425-442, 09.
  18. Dimson, Elroy, 1979. "Risk measurement when shares are subject to infrequent trading," Journal of Financial Economics, Elsevier, vol. 7(2), pages 197-226, June.
  19. Daniel, Kent & Titman, Sheridan, 1997. " Evidence on the Characteristics of Cross Sectional Variation in Stock Returns," Journal of Finance, American Finance Association, vol. 52(1), pages 1-33, March.
  20. McQueen, Grant & Pinegar, Michael & Thorley, Steven, 1996. " Delayed Reaction to Good News and the Cross-Autocorrelation of Portfolio Returns," Journal of Finance, American Finance Association, vol. 51(3), pages 889-919, July.
  21. Fama, Eugene F. & French, Kenneth R., 1993. "Common risk factors in the returns on stocks and bonds," Journal of Financial Economics, Elsevier, vol. 33(1), pages 3-56, February.
  22. Fama, Eugene F. & French, Kenneth R., 1989. "Business conditions and expected returns on stocks and bonds," Journal of Financial Economics, Elsevier, vol. 25(1), pages 23-49, November.
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Cited by:
  1. Mahmoud Botshekan & Roman Kraeussl & Andre Lucas, 2010. "Cash Flow and Discount Rate Risk in Up and Down Markets: What is actually priced?," Tinbergen Institute Discussion Papers 10-116/2/DSF 3, Tinbergen Institute.
  2. Botshekan, Mahmoud & Kraeussl, Roman & Lucas, Andre, 2012. "Cash Flow and Discount Rate Risk in Up and Down Markets: What Is Actually Priced?," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 47(06), pages 1279-1301, December.
  3. John Y. Campbell & Christopher Polk & Tuomo Vuolteenaho, 2005. "Growth or Glamour? Fundamentals and Systematic Risk in Stock Returns," Harvard Institute of Economic Research Working Papers 2082, Harvard - Institute of Economic Research.
  4. Eric Bahel & Christian Trudeau, 2014. "Stable lexicographic rules for shortest path games," Working Papers e07-46, Virginia Polytechnic Institute and State University, Department of Economics.

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