Cross-sectional return dispersion and the equity premium

Paulo Maio

Journal of Financial Markets, 2016, vol. 29, issue C, 87-109

Abstract: In this paper, I examine whether stock return dispersion (RD) provides useful information about future stock returns. RD consistently forecasts a decline in the excess market return at multiple horizons, and compares favorably with alternative predictors used in the literature. The out-of-sample performance of RD tends to beat the alternative predictors, and is economically significant as indicated by the certainty equivalent gain associated with a trading investment strategy. RD has greater forecasting power for big and growth stocks compared to small and value stocks, respectively. I discuss a theoretical mechanism giving rise to the negative correlation between RD and the equity premium.

Keywords: Asset pricing; Stock return dispersion; Cross-sectional variance of stock returns; Predictability of stock returns; Out-of-sample predictability (search for similar items in EconPapers)
JEL-codes: G12 G14 G17 (search for similar items in EconPapers)
Date: 2016
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (22)

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Persistent link: https://EconPapers.repec.org/RePEc:eee:finmar:v:29:y:2016:i:c:p:87-109

DOI: 10.1016/j.finmar.2015.09.001

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