Consumption risk and the cost of equity capital
By: Ravi Jagannathan, Yong Wang.
Contributors: Wang, Yong, 1974-; National Bureau of Economic Research.
Series: NBER working paper series -- working paper 11026.; Working paper series (National Bureau of Economic Research) -- working paper no. 11026.
Publisher: National Bureau of Economic Research
Published: 2005
Place of publication: Cambridge, Mass
Language: eng
Number of pages: 33
Subjects: Consumption (Economics) -- Mathematical models; Stocks -- Rate of return -- Mathematical models; Stocks -- Prices -- Mathematical models; Risk -- Mathematical models
Description: "We demonstrate, using data for the period 1954-2003, that differences in exposure to consumption risk explains cross sectional differences in average excess returns (cost of equity capital) across the 25 benchmark equity portfolios constructed by Fama and French (1993). We use yearly returns on stocks to take into account well documented within year deterministic seasonal patterns in returns, measurement errors in the consumption data, and possible slow adjustment of consumption to changes in wealth due to habit and prior commitments. Consumption during the fourth quarter is likely to have a larger discretionary component. Further, given the availability of more leisure time during the holiday season and the ending of the tax year in December, investors are more likely to review their asset holdings and make trading decisions during the fourth quarter. We therefore match the growth rate in the fourth quarter consumption from one year to the next with the corresponding calendar year return when computing the latter's exposure to consumption risk. We find strong support for our consumption risk model specification in the data"--National Bureau of Economic Research web site.
Notes: "January 2005."

Includes bibliographical references (p. 15-18).

Also available in PDF from the NBER world wide web site (www.nber.org).