Estimating the Intertemporal Risk–Return Tradeoff Using the Implied Cost of Capital

Lubos Pastor, Meenakshi Sinha and Bhaskaran Swaminathan

Journal of Finance, 2008, vol. 63, issue 6, 2859-2897

Abstract: We argue that the implied cost of capital (ICC), computed using earnings forecasts, is useful in capturing time variation in expected stock returns. First, we show theoretically that ICC is perfectly correlated with the conditional expected stock return under plausible conditions. Second, our simulations show that ICC is helpful in detecting an intertemporal risk–return relation, even when earnings forecasts are poor. Finally, in empirical analysis, we construct the time series of ICC for the G–7 countries. We find a positive relation between the conditional mean and variance of stock returns, at both the country level and the world market level.

Date: 2008
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Citations: View citations in EconPapers (168)

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https://doi.org/10.1111/j.1540-6261.2008.01415.x

Related works:
Working Paper: Estimating the Intertemporal Risk-Return Tradeoff Using the Implied Cost of Capital (2006)
Working Paper: Estimating the Intertemporal Risk-Return Tradeoff Using the Implied Cost of Capital (2006)
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Persistent link: https://EconPapers.repec.org/RePEc:bla:jfinan:v:63:y:2008:i:6:p:2859-2897

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