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Investor Expectations, Business Conditions, and the Pricing of Beta-Instability Risk

  • William Goetzmann
  • Akiko Watanabe
  • Masahiro Watanabe

This paper examines the pricing implications of time-variation in assets' market betas over the business cycle in a conditional CAPM framework. We use a half century of real GDP growth expectations from economists' surveys to determine forecasted economic states. This approach largely avoids the confounding effects of econometric forecasting model error. The expectation measure forecasts the market return controlling for existing predictive variables. The loadings on the expectation measure explain a significant fraction of cross-sectional variation in stock returns. A fully tradable, ex ante mimicking portfolio generates positive risk-adjusted returns during good economic times over four decades.

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File URL: http://icfpub.som.yale.edu/publications/2656
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Paper provided by Yale School of Management in its series Yale School of Management Working Papers with number amz2656.

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Date of creation: 01 Mar 2008
Date of revision: 01 Jan 2009
Handle: RePEc:ysm:somwrk:amz2656
Contact details of provider: Web page: http://icf.som.yale.edu/

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  18. Petkova, Ralitsa & Zhang, Lu, 2005. "Is value riskier than growth?," Journal of Financial Economics, Elsevier, vol. 78(1), pages 187-202, October.
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