Cointegration and Consumption Risks in Asset Returns
We argue that the cointegrating relation between dividends and consumption, a measure of long run consumption risks, is a key determinant of risk premia at all investment horizons. As the investment horizon increases, transitory risks disappear, and the asset's beta is dominated by long run consumption risks. We show that the return betas, derived from the cointegration-based VAR (EC-VAR) model, successfully account for the crosssectional variation in equity returns at both short and long horizons; this is not the case when the cointegrating restriction is ignored. Our evidence highlights the importance of cointegration-based long run consumption risks for financial markets.
An earlier draft of this paper was circulated with the title "Long Run Risks and Equity Returns." We would like to thank George Tauchen, Jessica Wachter, Vivian Wang, Amir Yaron, and the seminar participants at Arizona State University, Duke University, Simon Fraser University, Stanford University, University of British Columbia, University of Michigan, University of North Carolina, University of Pennsylvania, Vanderbilt University, Federal Reserve Board of Governors Conference on Risk Premiums: Time Variation and Macroeconomic Links, and 2007 American Finance Association Meetings for helpful comments. The views expressed herein are those of the author(s) and do not necessarily reflect the views of the National Bureau of Economic Research.
Ravi Bansal & Robert Dittmar & Dana Kiku, 2009. "Cointegration and Consumption Risks in Asset Returns," Review of Financial Studies, Oxford University Press for Society for Financial Studies, vol. 22(3), pages 1343-1375, March. citation courtesy of