Maximum likelihood estimation of the equity premium

Efstathios Avdis and Jessica Wachter ()

No 19684, NBER Working Papers from National Bureau of Economic Research, Inc

Abstract: The equity premium, namely the expected return on the aggregate stock market less the government bill rate, is of central importance to the portfolio allocation of individuals, to the investment decisions of firms, and to model calibration and testing. This quantity is usually estimated from the sample average excess return. We propose an alternative estimator, based on maximum likelihood, that takes into account information contained in dividends and prices. Applied to the postwar sample, our method leads to an economically significant reduction from 6.4% to 5.1%. Simulation results show that our method produces tighter estimates under a range of specifications.

JEL-codes: C32 C58 G11 G12 (search for similar items in EconPapers)
Date: 2013-11
New Economics Papers: this item is included in nep-ecm
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Published as Efstathios Avdis & Jessica A. Wachter, 2017. "Maximum likelihood estimation of the equity premium," Journal of Financial Economics, .

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