Journal ArticleDOI
How Does Information Quality Affect Stock Returns
Reads0
Chats0
TLDR
In this paper, the authors investigated the relationship between the precision of public information about economic growth and stock market returns and showed that higher precision of signals tends to increase the risk premium, when signals are imprecise, and return volatility is U-shaped with respect to investors' risk aversion.Abstract:
Using a simple dynamic asset pricing model, this paper investigates the relationship between the precision of public information about economic growth and stock market returns. After fully characterizing expected returns and conditional volatility, I show that (i) higher precision of signals tends to increase the risk premium, (ii) when signals are imprecise the equity premium is bounded above independently of investors' risk aversion, (iii) return volatility is U-shaped with respect to investors' risk aversion, and (iv) the relationship between conditional expected returns and conditional variance is ambiguous. IN MODERN FINANCIAL MARKETS, investors are flooded with a variety of information: corporations' earnings reports, revisions of macroeconomic indexes, policymakers' statements, and political news. These pieces of information are processed by investors to update their projections of the economy's future growth rate, inflation rate, and interest rate. In turn, these changes in investors' expectations affect stock market prices. However, even though it is clear that asset prices react to new information, several questions arise regarding the relationship between the quality of information that investors receive and asset returns. For example, what kind of effect does a noisy signal on the "health" of the economy have on stock market prices? If information is noisy, is there a risk premium? Or is the risk premium completely independent of the quality of information investors receive? Also, how does the precision of the signals affect stock market volatility? If signals are more precise, does stock market volatility decrease or increase? Finally, can we infer how good investors' information is from the behavior of stock market returns? In this paper I study a dynamic asset pricing model where I try to answer the above questions. Specifically, I assume that stock dividends are generated by a diffusion process whose drift rate is unknown to investors and mayread more
Citations
More filters
Journal ArticleDOI
Bayesian Learning in Financial Markets - Testing for the Relevance of Information Precision in Price Discovery
TL;DR: The authors analyzed intra-day price responses of CBOT T-bond futures to U.S. employment announcements and found that the price impact of more precise information is significantly stronger.
Journal ArticleDOI
Risk Premia and the Dynamic Covariance between Stock and Bond Returns
TL;DR: In this paper, the authors investigate whether intertemporal variation in stock and bond risk premia can be explained by time-varying covariances with priced risk factors.
Journal ArticleDOI
Information Quality and Long‐Run Risk: Asset Pricing Implications
TL;DR: In this article, Ai et al. studied the asset pricing implications of the quality of public information about persistent productivity shocks in a general equilibrium model with Kreps-Porteus preferences.
Journal ArticleDOI
What ties return volatilities to price valuations and fundamentals
Alexander David,Pietro Veronesi +1 more
TL;DR: In this article, a general equilibrium model for stock and Treasury bond comovement, volatilities and their relations to their price valuations and fundamentals change stochastically over time, in both magnitude and direction.
Journal ArticleDOI
Natural Selection in Financial Markets : Does It Work?
TL;DR: This paper analyzed a dynamic general equilibrium model where some investors have rational expectations, whereas others have incorrect beliefs concerning the mean growth rate of the economy, and the main result is that an investor can survive if and only if he has the lowest survival index, which is a function of his belief accuracy, patience parameter, and relative risk aversion coefficient.
References
More filters
Book
The econometrics of financial markets
TL;DR: In this paper, Campbell, Lo, and MacKinlay present an attempt by three well-known and well-respected scholars to fill an acknowledged void in the empirical finance literature, a text covering the burgeoning field of empirical finance.
Journal ArticleDOI
THE EQUITY PREMIUM A Puzzle
Rajnish Mehra,Edward C. Prescott +1 more
TL;DR: This paper showed that an equilibrium model which is not an Arrow-Debreu economy will be the one that simultaneously rationalizes both historically observed large average equity return and the small average risk-free return.
Journal ArticleDOI
Asset prices in an exchange economy
TL;DR: In this article, the authors examine the stochastic behavior of equilibrium asset prices in a one-good, pure exchange economy with identical consumers, and derive a functional equation for price as a function of the physical state of the economy.
Journal ArticleDOI
Substitution, Risk Aversion, and the Temporal Behavior of Consumption and Asset Returns: A Theoretical Framework
Larry G. Epstein,Stanley E. Zin +1 more
TL;DR: In this paper, a class of recursive, but not necessarily expected utility, preferences over intertemporal consumption lotteries is developed, which allows risk attitudes to be disentangled from the degree of inter-temporal substitutability, leading to a model of asset returns in which appropriate versions of both the atemporal CAPM and the inter-time consumption-CAPM are nested as special cases.
Book
A first course in stochastic processes
Samuel Karlin,Howard M. Taylor +1 more
TL;DR: In this paper, the Basic Limit Theorem of Markov Chains and its applications are discussed and examples of continuous time Markov chains are presented. But they do not cover the application of continuous-time Markov chain in matrix analysis.
Related Papers (5)
Stock Market Overreactions to Bad News in Good Times: A Rational Expectations Equilibrium Model
Risks for the Long Run: A Potential Resolution of Asset Pricing Puzzles
Ravi Bansal,Amir Yaron +1 more