How to Discount Cashflows with Time-Varying Expected Returns
46 Pages Posted: 31 May 2002
There are 3 versions of this paper
How to Discount Cashflows with Time-Varying Expected Returns
How to Discount Cashflows with Time-Varying Expected Returns
Date Written: May 9, 2002
Abstract
While many studies document that the market risk premium is predictable and that betas are not constant, the standard dividend discount model ignores these effects. This paper shows how to value cashflows with changing risk-free rates, predictable risk premiums and time-varying betas, by calculating a series of discount rates which take into account these effects. Using a constant discount rate can produce large misvaluations in portfolio data, which are mostly driven at long horizons by variation in risk-free rates and factor loadings.
Keywords: present value, discount rates, term structure of expected returns, time-varying beta, time-varying risk premium, capital budgeting
JEL Classification: E43, G12
Suggested Citation: Suggested Citation
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