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What Moves the Stock and Bond Markets? A Variance Decomposition for Long-Term Asset Returns

  • Campbell, John Y
  • Ammer, John

This paper uses a vector autoregressive model to decompose excess stock and ten-year bond returns into changes in expectations of future stock dividends, inflation, short-term real interest rates, and excess stock and bond returns. In monthly postwa r U.S. data, stock and bond returns are driven largely by news about future excess stock returns and inflation, respectively. Real intere st rates have little impact on returns, although they do affect the short-term nominal interest rate and the slope of the term structure. These findings help to explain the low correlation between excess st ock and bond returns. Copyright 1993 by American Finance Association.

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Article provided by American Finance Association in its journal Journal of Finance.

Volume (Year): 48 (1993)
Issue (Month): 1 (March)
Pages: 3-37

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Handle: RePEc:bla:jfinan:v:48:y:1993:i:1:p:3-37
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  1. David M. Cutler & James M. Poterba & Lawrence H. Summers, 1990. "Speculative Dynamics," NBER Working Papers 3242, National Bureau of Economic Research, Inc.
  2. Litterman, Robert B & Weiss, Laurence M, 1985. "Money, Real Interest Rates, and Output: A Reinterpretation of Postwar U.S. Data," Econometrica, Econometric Society, vol. 53(1), pages 129-56, January.
  3. Cecchetti, Stephen G & Lam, Pok-sang & Mark, Nelson C, 1990. "Mean Reversion in Equilibrium Asset Prices," American Economic Review, American Economic Association, vol. 80(3), pages 398-418, June.
  4. Campbell, John, 1987. "Stock Returns and the Term Structure," Scholarly Articles 3207699, Harvard University Department of Economics.
  5. Robert B. Barsky, 1986. "Why Don't the Prices of Stocks and Bonds Move Together?," NBER Working Papers 2047, National Bureau of Economic Research, Inc.
  6. Keim, Donald B. & Stambaugh, Robert F., 1986. "Predicting returns in the stock and bond markets," Journal of Financial Economics, Elsevier, vol. 17(2), pages 357-390, December.
  7. Robert J. Shiller & Andrea E. Beltratti, 1990. "Stock Prices and Bond Yields: Can Their Co-Movements Be Explained in Terms of Present Value Models?," Cowles Foundation Discussion Papers 953, Cowles Foundation for Research in Economics, Yale University.
  8. 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.
  9. James M. Poterba & Lawrence H. Summers, 1987. "Mean Reversion in Stock Prices: Evidence and Implications," NBER Working Papers 2343, National Bureau of Economic Research, Inc.
  10. Campbell, John & Shiller, Robert, 1988. "Stock Prices, Earnings, and Expected Dividends," Scholarly Articles 3224293, Harvard University Department of Economics.
  11. Hansen, Lars Peter, 1982. "Large Sample Properties of Generalized Method of Moments Estimators," Econometrica, Econometric Society, vol. 50(4), pages 1029-54, July.
  12. John Y. Campbell & Robert J. Shiller, 1991. "Yield Spreads and Interest Rate Movements: A Bird's Eye View," Review of Economic Studies, Oxford University Press, vol. 58(3), pages 495-514.
  13. John Y. Campbell, 1990. "A Variance Decomposition for Stock Returns," NBER Working Papers 3246, National Bureau of Economic Research, Inc.
  14. Fama, Eugene F & Bliss, Robert R, 1987. "The Information in Long-Maturity Forward Rates," American Economic Review, American Economic Association, vol. 77(4), pages 680-92, September.
  15. Nelson, C.R. & Kim, M.J., 1990. "Predictable Stock Returns: Reality Or Statistical Illusion?," Discussion Papers in Economics at the University of Washington 90-15, Department of Economics at the University of Washington.
  16. Robert J. Shiller & J. Huston McCulloch, 1987. "The Term Structure of Interest Rates," NBER Working Papers 2341, National Bureau of Economic Research, Inc.
  17. 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.
  18. Mishkin, F.S., 1988. "What Does The Term Structure Tell Us About Future Inflation?," Papers fb-_88-29, Columbia - Graduate School of Business.
  19. John Y. Campbell & Robert J. Shiller, 1986. "Cointegration and Tests of Present Value Models," Cowles Foundation Discussion Papers 785, Cowles Foundation for Research in Economics, Yale University.
  20. Campbell, John, 1990. "Measuring the Persistence of Expected Returns," Scholarly Articles 3207696, Harvard University Department of Economics.
  21. Andrew W. Lo, A. Craig MacKinlay, 1988. "Stock Market Prices do not Follow Random Walks: Evidence from a Simple Specification Test," Review of Financial Studies, Society for Financial Studies, vol. 1(1), pages 41-66.
  22. 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.
  23. John Y. Campbell & Robert J. Shiller, 1983. "A Simple Account of the Behavior of Long-Term Interest Rates," NBER Working Papers 1203, National Bureau of Economic Research, Inc.
  24. Bruce N. Lehmann, 1991. "Earnings, Dividend Policy, and Present Value Relations: Building Blocks of Dividend Policy Invariant Cash Flows," NBER Working Papers 3676, National Bureau of Economic Research, Inc.
  25. Robert J. Shiller & John Y. Campbell & Kermit L. Schoenholtz, 1983. "Forward Rates and Future Policy: Interpreting the Term Structure of Interest Rates," Brookings Papers on Economic Activity, Economic Studies Program, The Brookings Institution, vol. 14(1), pages 173-224.
  26. James H. Stock & Mark W. Watson, 1990. "Business Cycle Properties of Selected U.S. Economic Time Series, 1959-1988," NBER Working Papers 3376, National Bureau of Economic Research, Inc.
  27. Hodrick, Robert J, 1992. "Dividend Yields and Expected Stock Returns: Alternative Procedures for Inference and Measurement," Review of Financial Studies, Society for Financial Studies, vol. 5(3), pages 357-86.
  28. Gibbons, Michael R., 1989. "On the volatility of bond prices," Carnegie-Rochester Conference Series on Public Policy, Elsevier, vol. 31(1), pages 139-175, January.
  29. Estrella, Arturo & Hardouvelis, Gikas A, 1991. " The Term Structure as a Predictor of Real Economic Activity," Journal of Finance, American Finance Association, vol. 46(2), pages 555-76, June.
  30. Conrad, Jennifer & Kaul, Gautam, 1988. "Time-Variation in Expected Returns," The Journal of Business, University of Chicago Press, vol. 61(4), pages 409-25, October.
  31. Fama, Eugene F., 1990. "Term-structure forecasts of interest rates, inflation and real returns," Journal of Monetary Economics, Elsevier, vol. 25(1), pages 59-76, January.
  32. David M. Cutler & James M. Poterba & Lawrence H. Summers, 1988. "What Moves Stock Prices?," NBER Working Papers 2538, National Bureau of Economic Research, Inc.
  33. Fama, Eugene F. & Schwert, G. William, 1977. "Asset returns and inflation," Journal of Financial Economics, Elsevier, vol. 5(2), pages 115-146, November.
  34. Matthew Richardson & James H. Stock, 1990. "Drawing Inferences From Statistics Based on Multi-Year Asset Returns," NBER Working Papers 3335, National Bureau of Economic Research, Inc.
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