Cointegration and Consumption Risks in Asset Returns

Ravi Bansal, Robert F. Dittmar () and Dana Kiku

No 13108, NBER Working Papers from National Bureau of Economic Research, Inc

Abstract: We argue that the cointegrating relation between dividends and consumption, a measure of long run consumption risks, is a key determinant of risk premia at all investment horizons. As the investment horizon increases, transitory risks disappear, and the asset's beta is dominated by long run consumption risks. We show that the return betas, derived from the cointegration-based VAR (EC-VAR) model, successfully account for the crosssectional variation in equity returns at both short and long horizons; this is not the case when the cointegrating restriction is ignored. Our evidence highlights the importance of cointegration-based long run consumption risks for financial markets.

JEL-codes: C01 C13 G00 G1 G12 (search for similar items in EconPapers)
New Economics Papers: this item is included in nep-fmk
Date: 2007-05
Note: AP EFG
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