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Modeling Expected Stock Returns for Long and Short Horizons

Listed author(s):
  • Shmuel Kandel
  • Robert F. Stambaugh

Expected returns over long and short horizons are modeled using two approaches: an equilibrium asset pricing model and a vector autoregression (VAR). Empirical properties of returns that are consistent with the equilibrium model’s implications include (i) an annual "equity premium" of about six percent (ii) a U-shaped pattern of autocorrelations of returns with respect to investment horizon for the R-squared in projections of stock returns on predetermined financial variables. Parameters estimated in a monthly VAR for returns and these financial variables also imply autocorrelations, R-squared values, and conditional expected returns that are close to those computed with actual long-horizon returns. Simulations indicate that such a VAR is a reasonable approximation to the equilibrium model for representing the properties short- and long-horizon returns.

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Paper provided by Wharton School Rodney L. White Center for Financial Research in its series Rodney L. White Center for Financial Research Working Papers with number 42-88.

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Date of creation:
Handle: RePEc:fth:pennfi:42-88
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