Date of Original Version

11-26-2008

Type

Working Paper

Rights Management

All Rights Reserved

Abstract or Description

We show that equity returns, the term spread, and excess returns on a broad range of assets are positively correlated with future economic growth. The common tendency for excess returns to lead the business cycle suggests a macroeconomic factor in the cyclical behavior of asset returns. We construct an exchange economy that illustrates how this might work. Its important ingredients are recursive preferences, stochastic volatility in consumption growth, and dynamic interaction between volatility and growth.

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