Subjective Cash Flows and Discount Rates

Ricardo De La O and Sean Myers

No 291, 2018 Meeting Papers from Society for Economic Dynamics

Abstract: What drives stock prices? Using survey forecasts for dividend growth and returns for the S&P 500 index, we find that changes in subjective dividend growth expectations are the main driver of movements in the price-dividend ratio. Subjective dividend growth expectations vary substantially over time and match future dividend growth remarkably well, while subjective return expectations are relatively flat and weakly negatively correlated with future returns. One-year subjective dividend growth expectations explain a large amount of the movements in the price-dividend ratio, accounting for 36% of the total variation. Using longer horizon subjective expectations, we estimate that subjective dividend growth expectations account for at least 73% of the variation in the price-dividend ratio, while subjective return expectations account for at most 27%. These findings highlight the importance of time-varying dividend growth expectations in determining aggregate stock prices.

Date: 2018
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