TY  - JOUR
AU  - Santos,Tano
AU  - Veronesi,Pietro
TI  - Labor Income and Predictable Stock Returns
JF  - National Bureau of Economic Research Working Paper Series
VL  - No. 8309
PY  - 2001
Y2  - May 2001
UR  - http://www.nber.org/papers/w8309
L1  - http://www.nber.org/papers/w8309.pdf
N1  - Author contact info:
Tano Santos
Graduate School of Business
Columbia University
3022 Broadway, Uris Hall 414
New York, NY  10027
Tel: 212/854-0489
Fax: 212/316-9180
E-Mail: js1786@columbia.edu

Pietro Veronesi
University of Chicago
Booth School of Business
5807 South Woodlawn Avenue
Chicago, IL  60637
Tel: 773/702-6348
Fax: 773/702-0458
E-Mail: pietro.veronesi@chicagobooth.edu
AB  - We propose and test a novel economic mechanism that generates stock return predictability on both the time series and the cross section. In our model, investors' income has two sources, wages and dividends, that grow stochastically over time. As a consequence, the fraction of total income produced by wages changes over time de-pending on economic conditions. We show that as this fraction fluctuates, the risk premium that investors require to hold stocks varies as well. We test the main implications of the model and find substantial support for it. A regression of stock returns on lagged values of the labor income to consumption ratio produces statistically significant coefficients and adjusted R2 's that are larger than those generated when using the dividend price ratio. Tests of the cross sectional implication find considerable improvements on the performance of both the conditional CAPM and CCAPM when compared to their unconditional counterparts.
ER  -