“Price-Dividend Ratio Factor Proxies for Long-Run Risks” by Ravi Jagannathan and Srikant Marakani Rev Asset Pric Stud (2015) 5 (1): 1-47. doi: 10.1093/rapstu/rav003 First published online: March 24, 2015
http://raps.oxfordjournals.org/content/5/1/1.full
Price-Dividend Ratio Factor Proxies for Long-Run Risks
- Ravi Jagannathan
- Kellogg School of Management, Northwestern University and NBER, Indian School of Business and Shanghai Advanced Institute of Finance
- Srikant Marakani
+ Author Affiliations
- Department of Economics and Finance, City University of Hong Kong
- Send correspondence to Ravi Jagannathan, Department of Finance, Kellogg School of Management, Northwestern University and NBER, Indian School of Business and Shanghai Advanced Institute of Finance. E-mail: rjaganna@kellogg.northwestern.edu.
Abstract
We show that several asset pricing models that rely on long-run risks imply that the state of the economy can be captured by factors derived from the price-dividend ratios of stock portfolios. We find two factors with small growth and large value tilts are important for this purpose, thereby relating the Fama-French model and the Bansal-Yaron and Merton intertemporal asset pricing models. As predicted by the model, these price-dividend ratio factors track consumption volatility and predict future consumption and stock dividends, and the covariance of returns with their innovations explains the cross-section of average returns of several stock portfolios. (JEL G19)
