The Risky Capital of Emerging Markets

We build a panel of stock market returns across 37 developed and developing countries spanning five decades. We document: (1) higher and more volatile returns in poorer over richer countries; (2) higher returns in countries with more sensitive dividends to changes in global predictable growth. We quantitatively explore whether consumption-based long-run risk can reconcile these patterns. When we estimate the parameters that govern the U.S. investor’s consumption growth and each market’s dividend growth process, the model generates higher risk premia in emerging over developed markets, and predicts levels and volatilities of stock market returns that are at par with data.