Does an intertemporal tradeoff between risk and return explain mean reversion in stock prices?

Chang Jin Kim, James C. Morley, Charles R. Nelson

Research output: Contribution to journalArticle

15 Citations (Scopus)

Abstract

When volatility feedback is taken into account, there is strong evidence of a positive tradeoff between stock market volatility and expected returns on a market portfolio. In this paper, we ask whether this intertemporal tradeoff between risk and return is responsible for the reported evidence of mean reversion in stock prices. There are two relevant findings. First, price movements not related to the effects of Markov-switching market volatility are largely unpredictable over long horizons. Second, time-varying parameter estimates of the long-horizon predictability of stock returns reject any systematic mean reversion in favour of behaviour implicit in the historical timing of the tradeoff between risk and return.

Original languageEnglish
Pages (from-to)403-426
Number of pages24
JournalJournal of Empirical Finance
Volume8
Issue number4
DOIs
Publication statusPublished - 2001 Sep

Keywords

  • G12
  • G14
  • Markov switching
  • Mean reversion
  • Time-varying parameter
  • Volatility feedback

ASJC Scopus subject areas

  • Finance
  • Economics and Econometrics

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