Journal
INTERNATIONAL JOURNAL OF FINANCE & ECONOMICS
Volume 11, Issue 3, Pages 195-203Publisher
JOHN WILEY & SONS LTD
DOI: 10.1002/ijfe.292
Keywords
stock prices; speculative bubbles; Kalman filter
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This paper considers a standard present-value equity price formula where the discount factor is driven by the real return on short-term public debt. We discuss a state-space formulation by which prices can be decomposed into fundamental and non-fundamental components. The model is estimated on annual US data. The stochastic discount factor explains part of the volatility in equity values, but it is not sufficient per se to exclude the occurrence of near-exponential bubbles in the price-dividend ratio. These disappear if the dividend is replaced by a broader measure of the income flow generated by the firms. Copyright (c) 2006 John Wiley & Sons, Ltd.
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