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Dividends, earnings and expected return in the context of consumption risk

University of British Columbia

The consumption literature of asset pricing typically considers only dividend cash flows, based on the theoretical inference that consumption must equal dividends over the long run. Where it is commonly considered that dividends are the smooth permanent component of earnings, while earnings vary with the business cycle. Motivated by Lamont’s (1998) result that earnings and dividends have opposite effects on future return, we follow the empirical methodology of Boguth and Kuehn (2013) and find that dividend growth volatility and earnings growth volatility have opposite relationships to consumption volatility risk. We show that these opposing effects of dividends and earnings are components of the mechanism connecting consumption risk and investors’ expected return. These results offer insight for a piece of the equity premium puzzle, namely, why stock return volatility is large compared to consumption volatility.

Text

2016-05-12

Attribution-NonCommercial-NoDerivatives 4.0 International

http://hdl.handle.net/2429/58127

Interdisciplinary Studies

University of British Columbia

UBCO

http://creativecommons.org/licenses/by-nc-nd/4.0/