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Equity premium predictability over the business cycle

September 12, 2021

Whether the equity premium is predictable has been the subject of long debate in finance. While a large literature documents in-sample predictability (e.g. Fama and French 1988, Lettau and Ludvigson 2001), the evidence in favour of robust out-of-sample stock return predictability has been mixed. In an influential study, Welch and Goyal (2008) argued that many of the suggested predictors would not have helped an investor to time the market in real time, and that popular predictor variables often only ‘worked’ during certain periods of time. In the meantime, a growing body of literature has proposed alternative stock return predictor variables. A common pattern that emerges from this literature is that stock returns appear to be predictable mainly around recessions.
In a recent

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