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The expected real return to equity

  • Warusawitharana, Missaka

The expected return to equity – typically measured as a historical average – is a key variable in the decision making of investors. A recent literature uses analysts' forecasts, investor surveys or present-value relationships and finds estimates of expected returns that are sometimes much lower than historical averages. This study extends the present-value approach to a dynamic optimizing framework. Given a model that captures this relationship, one can use data on dividends, earnings and valuations to infer the model-implied expected return. Using this method, the estimated expected real return to equity ranges from 4.9% to 5.6% . Furthermore, the analysis indicates that expected returns have declined by about 3 percentage points over the past 40 years. These results indicate that future returns to equity may be lower than past realized returns.

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Article provided by Elsevier in its journal Journal of Economic Dynamics and Control.

Volume (Year): 37 (2013)
Issue (Month): 9 ()
Pages: 1929-1946

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Handle: RePEc:eee:dyncon:v:37:y:2013:i:9:p:1929-1946
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