Time-Varying Risk Premiums and the Output Gap
Posted: 22 Jun 2009
Date Written: July 2009
Abstract
The output gap, a production-based macroeconomic variable, is a strong predictor of U.S. stock returns. It is a prime business cycle indicator that does not include the level of market prices, thus removing any suspicion that returns are forecastable due to a “fad” in prices being washed away. The output gap forecasts returns both in-sample and out-of-sample, and it is robust to a host of checks. We show that the output gap also has predictive power for excess stock returns in other G7 countries and U.S. excess bond returns.
Keywords: E44, G12, G14
Suggested Citation: Suggested Citation
Cooper, Ilan and Priestley, Richard, Time-Varying Risk Premiums and the Output Gap (July 2009). The Review of Financial Studies, Vol. 22, Issue 7, pp. 2601-2633, 2009, Available at SSRN: https://ssrn.com/abstract=1422409 or http://dx.doi.org/hhn087
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