Leonard Stern School of Business
New York University
44 West 4th Street
New York, NY 10012-1126
NBER Working Papers and Publications
|April 2011||Why Surplus Consumption in the Habit Model May be Less Persistent than You Think|
with Anthony W. Lynch: w16950
In U.S. data, value stocks have higher expected excess returns and higher CAPM alphas than growth stocks. We find the external-habit model of Campbell and Cochrane (1999) can generate a value premium in both CAPM alpha and expected excess return so long as the persistence of the log surplus-consumption ratio is not too high. In contrast, Lettau and Wachter (2007) find that when the log surplus-consumption ratio is assumed to be highly persistent as in Campbell and Cochrane, the external-habit model generates a growth premium in expected excess return. However, the micro evidence favors a less persistent log surplus-consumption ratio. We choose a value for this persistence which is sufficiently low that the most recent 2 years of log consumption contribute over 98% of all past consumption t...