Please use this identifier to cite or link to this item: https://hdl.handle.net/10419/224132 
Year of Publication: 
2020
Series/Report no.: 
SAFE Working Paper No. 289
Publisher: 
Leibniz Institute for Financial Research SAFE, Frankfurt a. M.
Abstract: 
Many modern macro finance models imply that excess returns on arbitrary assets are predictable via the price-dividend ratio and the variance risk premium of the aggregate stock market. We propose a simple empirical test for the ability of such a model to explain the cross-section of expected returns by sorting stocks based on the sensitivity of expected returns to these quantities. Models with only one uncertainty-related state variable, like the habit model or the long-run risks model, cannot pass this test. However, even extensions with more state variables mostly fail. We derive conditions under which models would be able to produce expected return patterns in line with the data and discuss various examples.
Subjects: 
asset pricing
cross-section of stock returns
predictability
JEL: 
G12
E44
D81
Persistent Identifier of the first edition: 
Document Type: 
Working Paper

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