Stock Prices and Fundamentals: A Macroeconomic Perspective
This paper compares the predictions for the market value of firms from the Gordon growth model with those from a dynamic general-equilibrium model. The predictions for movements in the market value of firms following shifts in preferences, growth prospects, and risk are quantitatively and qualitatively different across the models. While previous research illustrated how a drop in the required return or an increase in the growth rate of the economy can explain the run-up in equity values in the 1990s in the Gordon growth model, the general-equilibrium model suggests that such results are misleading.
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