Tobin's Q and Stock Market Performance

Abstract

This study examines if the change in aggregate Tobin’s q ratio (∆TBQ) can dynamically forecast return on the S&P 500 (SP). The VAR results from analyzing quarterly data from 1951Q4 to 2012Q4 show that the response of SP to ∆TBQ shock becomes significantly positive immediately. The Granger-causality test results reveal that ∆TBQ Granger-causes SP; the reverse causality is not evident. The variance decomposition results reveal that ∆TBQ forecasts about 70% of SP at the two-quarter to eight-quarter horizons.

Keywords: Tobin’s q ratio, stock market performance, VAR

JEL Classification: G12, G14, G17