Labor income risk and asset returns

Christian Julliard

LSE Research Online Documents on Economics from London School of Economics and Political Science, LSE Library

Abstract: This paper shows, from the consumer’s budget constraint, that expected future labor income growth rates and the residuals of the cointegration relation among log consumption, log asset wealth and log current labor income (summarized by the variable cay of Lettau and Ludvigson (2001a)), should help predict U.S. quarterly stock market returns and explain the cross-section of average returns. I …nd that a) ‡uctuations in expected future labor income are a strong predictor of both real stock returns and excess returns over a Treasury bill rate, b) when this variable is used as conditioning information for the Consumption Capital Asset Pricing Model (CCAPM), the resulting linear factor model explains four …fth of the variation in observed average returns across the Fama and French (25) portfolios and prices correctly the small growth portfolio. The paper also …nds that about one third of the variance of returns is predictable, over a horizon of one year, using expected future labor income growth rates and cay jointly as forecasting variables.

Keywords: Human Capital; Labor Income Risk; Expected Returns; Consumption Capital (search for similar items in EconPapers)
JEL-codes: E21 E24 G12 (search for similar items in EconPapers)
Pages: 55 pages
Date: 2007-05
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (5)

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Persistent link: https://EconPapers.repec.org/RePEc:ehl:lserod:4811

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