Date of this Version
Journal of Financial Economics
Conventional tests of the predictability of stock returns could be invalid, that is reject the null too frequently, when the predictor variable is persistent and its innovations are highly correlated with returns. We develop a pretest to determine whether the conventional t-test leads to invalid inference and an efficient test of predictability that corrects this problem. Although the conventional t-test is invalid for the dividend–price and smoothed earnings–price ratios, our test finds evidence for predictability. We also find evidence for predictability with the short rate and the long-short yield spread, for which the conventional t-test leads to valid inference.
© 2006. This manuscript version is made available under the CC-BY-NC-ND 4.0 license http://creativecommons.org/licenses/by-nc-nd/4.0/.
Campbell, J. Y., & Yogo, M. (2006). Efficient Tests of Stock Return Predictability. Journal of Financial Economics, 81 (1), 27-60. http://dx.doi.org/10.1016/j.jfineco.2005.05.008
Date Posted: 27 November 2017
This document has been peer reviewed.