Why Are Stock Market Returns Correlated with Future Economic Activity? (ICPSR 1261)

Version Date: Aug 13, 2002 View help for published

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Hui Guo, Federal Reserve Bank of St. Louis

https://doi.org/10.3886/ICPSR01261.v1

Version V1

Stock price, because it is a forward-looking variable, forecasts economic activities. An unexpected increase in stock price reflects that (1) future dividend growth is higher and/or (2) future discount rates are lower than previously anticipated. Therefore, the increase predicts higher output and investment. As well, other studies argue for an important relation between the expected stock market return and investment. In this paper, the author analyses the relative importance of these mechanisms by using Campbell and Shiller's (1988) method to decompose stock market return into three parts: expected return, a shock to the expected future return, and a shock to the expected future dividend growth. Contrary to the conventional wisdom, the author finds that dividend shocks are a rather weak predictor for future economic activities. Moreover, the expected return and shocks to the expected future return display different predictive patterns. The results shown here, collectively, explain why the forecasting power of stock market return is rather limited.

Guo, Hui. Why Are Stock Market Returns Correlated with Future Economic Activity? Ann Arbor, MI: Inter-university Consortium for Political and Social Research [distributor], 2002-08-13. https://doi.org/10.3886/ICPSR01261.v1

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Inter-university Consortium for Political and Social Research

The files submitted are a data file, 0203hgd.xls, and a program file, 0203hgp.tsp. These data are part of ICPSR's Publication-Related Archive and are distributed exactly as they arrived from the data depositor. ICPSR has not checked or processed this material. Users should consult the investigator(s) if further information is desired.

2002-08-13

2018-02-15 The citation of this study may have changed due to the new version control system that has been implemented. The previous citation was:
  • Guo, Hui. Why Are Stock Market Returns Correlated with Future Economic Activity?. ICPSR01261-v1. Ann Arbor, MI: Inter-university Consortium for Political and Social Research [distributor], 2002-08-13. http://doi.org/10.3886/ICPSR01261.v1

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