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Investment and Share Prices: Fundamental versus Speculative Components

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  • Christopher B. Branston
  • Nicolaas Groenewold

    ()
    (UWA Business School, The University of Western Australia)

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    Abstract

    This paper uses quarterly US data from 1953(6) to 2000(6) to investigate the effects of share-price changes on investment. We focus on the distinction between speculative and fundamental components of share-price movements and we contribute to the literature by evaluating four alternative methods of decomposing share-price movements into these two components. The four methods are: (1)a decomposition based on regressing share-returns on a set of variables designed to capture fundamentals; (2)the use of the price-earnings ratio; (3)the use of the dividend yield and (4)a structural VAR model based on the dividend-discount equation. We find that, no matter what the method of decomposition is, shocks to both fundamental and speculative components have positive effects on investment and that, in contrast to the earlier literature, the effect of the speculative shock is at least as large as that of a shock to fundamentals.

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    File URL: http://www.biz.uwa.edu.au/home/research/discussionworking_papers/economics/2003?f=151073
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    Bibliographic Info

    Paper provided by The University of Western Australia, Department of Economics in its series Economics Discussion / Working Papers with number 03-18.

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    Length: 39 pages
    Date of creation: 2003
    Date of revision:
    Handle: RePEc:uwa:wpaper:03-18

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    Keywords: investment; stock prices; fundamentals;

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    1. Robert S. Chirinko & Huntley Schaller, 1993. "Bubbles, fundamentals, and investment: a multiple equation testing strategy," Research Working Paper 93-03, Federal Reserve Bank of Kansas City.
    2. Johansen, Soren, 1988. "Statistical analysis of cointegration vectors," Journal of Economic Dynamics and Control, Elsevier, vol. 12(2-3), pages 231-254.
    3. Chung, Heetaik & Lee, Bong-Soo, 1998. "Fundamental and nonfundamental components in stock prices of Pacific-Rim countries," Pacific-Basin Finance Journal, Elsevier, vol. 6(3-4), pages 321-346, August.
    4. Martha Starr-McCluer, 1998. "Stock market wealth and consumer spending," Finance and Economics Discussion Series 1998-20, Board of Governors of the Federal Reserve System (U.S.).
    5. Gilchrist, Simon & Leahy, John V., 2002. "Monetary policy and asset prices," Journal of Monetary Economics, Elsevier, vol. 49(1), pages 75-97, January.
    6. Tobin, James, 1969. "A General Equilibrium Approach to Monetary Theory," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 1(1), pages 15-29, February.
    7. Cochrane, John H, 1991. " Production-Based Asset Pricing and the Link between Stock Returns and Economic Fluctuations," Journal of Finance, American Finance Association, vol. 46(1), pages 209-37, March.
    8. Johansen, Soren & Juselius, Katarina, 1990. "Maximum Likelihood Estimation and Inference on Cointegration--With Applications to the Demand for Money," Oxford Bulletin of Economics and Statistics, Department of Economics, University of Oxford, vol. 52(2), pages 169-210, May.
    9. Oxley, Les & McAleer, Michael, 1993. " Econometric Issues in Macroeconomic Models with Generated Regressors," Journal of Economic Surveys, Wiley Blackwell, vol. 7(1), pages 1-40.
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