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Expected returns and risk in the stock market

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  • Brennan, M.J.
  • Taylor, Alex P.

Abstract

We explain time-varying expected returns by time-variation in the covariance of the market return with the pricing kernel. Simple specifications in which the kernel is spanned by a small number of factors reveal substantial levels of predictability with 1-year R2 of 17–18%. The pricing kernel identified by the model is essentially orthogonal to news about expected returns, suggesting that the predictability of market returns is due to the time-varying risk of cash-flow news.

Suggested Citation

  • Brennan, M.J. & Taylor, Alex P., 2023. "Expected returns and risk in the stock market," Journal of Empirical Finance, Elsevier, vol. 72(C), pages 276-300.
    • Handle: RePEc:eee:empfin:v:72:y:2023:i:c:p:276-300
    DOI: 10.1016/j.jempfin.2023.03.002
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    More about this item

    Keywords

    Predictability; Expected returns; Risk;
    All these keywords.

    JEL classification:

    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • G14 - Financial Economics - - General Financial Markets - - - Information and Market Efficiency; Event Studies; Insider Trading
    • G17 - Financial Economics - - General Financial Markets - - - Financial Forecasting and Simulation

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