Equity premium predictability over the business cycle

Emanuel Mönch and Tobias Stein
Authors registered in the RePEc Author Service: Emanuel Moench

No 25/2021, Discussion Papers from Deutsche Bundesbank

Abstract: The equity premium follows a pronounced v-shape pattern around the beginning of recessions. It sharply drops into negative territory just before business cycle peaks and then strongly recovers as the recession unfolds. Recessions are preceded by an inverted yield curve. Thus probit models using the term spread as predictor time the beginning of recessions well. We show that such model-implied recession probabilities strongly improve equity premium prediction out-of-sample. We document a structural break in the mean of the term spread in 1982. When correcting for this break, the forecast performance further strengthens, outperforming other recently proposed benchmark predictors.

Keywords: Recession predictability; return predictability; business cycle; probit model; term spread (search for similar items in EconPapers)
JEL-codes: C53 E32 E37 G11 G17 (search for similar items in EconPapers)
Date: 2021
New Economics Papers: this item is included in nep-fmk, nep-isf, nep-mac and nep-ore
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (7)

Downloads: (external link)
https://www.econstor.eu/bitstream/10419/240197/1/1768016089.pdf (application/pdf)

Related works:
Working Paper: Equity premium predictability over the business cycle (2021)
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: https://EconPapers.repec.org/RePEc:zbw:bubdps:252021

Access Statistics for this paper

More papers in Discussion Papers from Deutsche Bundesbank Contact information at EDIRC.
Bibliographic data for series maintained by ZBW - Leibniz Information Centre for Economics ().