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Predicting the bear stock market: Macroeconomic variables as leading indicators

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  • Chen, Shiu-Sheng

Abstract

This paper investigates whether macroeconomic variables can predict recessions in the stock market, i.e., bear markets. Series such as interest rate spreads, inflation rates, money stocks, aggregate output, unemployment rates, federal funds rates, federal government debt, and nominal exchange rates are evaluated. After using parametric and nonparametric approaches to identify recession periods in the stock market, we consider both in-sample and out-of-sample tests of the variables' predictive ability. Empirical evidence from monthly data on the Standard & Poor's S&P 500 price index suggests that among the macroeconomic variables we have evaluated, yield curve spreads and inflation rates are the most useful predictors of recessions in the US stock market, according to both in-sample and out-of-sample forecasting performance. Moreover, comparing the bear market prediction to the stock return predictability has shown that it is easier to predict bear markets using macroeconomic variables.

Suggested Citation

  • Chen, Shiu-Sheng, 2009. "Predicting the bear stock market: Macroeconomic variables as leading indicators," Journal of Banking & Finance, Elsevier, vol. 33(2), pages 211-223, February.
  • Handle: RePEc:eee:jbfina:v:33:y:2009:i:2:p:211-223
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    References listed on IDEAS

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    Keywords

    G10 C53 Macroeconomic variables Stock returns Bear stock markets;

    JEL classification:

    • G10 - Financial Economics - - General Financial Markets - - - General (includes Measurement and Data)
    • C53 - Mathematical and Quantitative Methods - - Econometric Modeling - - - Forecasting and Prediction Models; Simulation Methods

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