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Information Quality and Stock Returns Revisited

  • Frode Brevik

    (St. Gallen University)

  • Stefano d'Addona

    (University of Rome III & Columbia Business School)

Building on the seminal work of Veronesi (2000), we investigate the relationship between the quality of information on the state of the economy and equity risk premium. In this, we use a setup where investors have Epstein-Zin preferences and the economy switches between booms and recessions at random intervals (Hamilton, 1989). Calibrating the model to fit the business cycle patterns in the US postwar data, we are able to establish two key results: First, as conjectured in the existing literature, we demonstrate that investors with high intertemporal elasticity of substitution will require lower excess returns for holding stocks if they are provided with better information on the state of the economy. Second, and even more interesting (since not predicted in the literature), we find that this will also hold for investors with a moderate elasticity of intertemporal substitution if they are moderately risk averse.

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Paper provided by EconWPA in its series Finance with number 0511006.

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Date of creation: 16 Nov 2005
Date of revision: 28 Nov 2005
Handle: RePEc:wpa:wuwpfi:0511006
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