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Working Paper 2006-007A

"Equity Market Volatility and Expected Risk Premium"
by Long Chen, Hui Guo, and Lu Zhang

This paper revisits the time-series relation between the conditional risk premium and variance of the equity market portfolio. The main innovation is that we construct a measure of the ex ante equity market risk premium using corporate bond yield spread data. This measure is forward-looking and does not rely critically on either realized equity returns or instrumental variables. We find strong support for a positive risk-return tradeoff, and this result is not sensitive to a number of robustness checks, including alternative proxies of the conditional stock variance and controls for hedging demands.

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Category > Applied Econometrics
Category > Finance
Author > Hui Guo
Research Papers and Publications: JEL Code > G12
Research Papers and Publications: JEL Code > E44