The Myth of Long-Horizon Predictability

Jacob Boudoukh, Matthew Richardson and Robert Whitelaw

No 11841, NBER Working Papers from National Bureau of Economic Research, Inc

Abstract: The prevailing view in finance is that the evidence for long-horizon stock return predictability is significantly stronger than that for short horizons. We show that for persistent regressors, a characteristic of most of the predictive variables used in the literature, the estimators are almost perfectly correlated across horizons under the null hypothesis of no predictability. For example, for the persistence levels of dividend yields, the analytical correlation is 99% between the 1- and 2-year horizon estimators and 94% between the 1- and 5-year horizons, due to the combined effects of overlapping returns and the persistence of the predictive variable. Common sampling error across equations leads to ordinary least squares coefficient estimates and R2s that are roughly proportional to the horizon under the null hypothesis. This is the precise pattern found in the data. The asymptotic theory is corroborated, and the analysis extended by extensive simulation evidence. We perform joint tests across horizons for a variety of explanatory variables, and provide an alternative view of the existing evidence.

JEL-codes: G12 G10 C32 (search for similar items in EconPapers)
New Economics Papers: this item is included in nep-ecm, nep-ets, nep-fin, nep-for and nep-rmg
Date: 2005-12
Note: AP
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