By Force of Habit: A Consumption-Based Explanation of Aggregate Stock Market Behavior

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By Force of Habit: A Consumption-Based Explanation of Aggregate Stock Market Behavior

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Title: By Force of Habit: A Consumption-Based Explanation of Aggregate Stock Market Behavior
Author: Campbell, John; Cochrane, John H.

Note: Order does not necessarily reflect citation order of authors.

Citation: Campbell, John Y., and John H. Cochrane. 1999. By force of habit: a consumption-based explanation of aggregate stock market behavior. Journal of Political Economy 107(2): 205-251.
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Abstract: We present a consumption‐based model that explains a wide variety of dynamic asset pricing phenomena, including the procyclical variation of stock prices, the long‐horizon predictability of excess stock returns, and the countercyclical variation of stock market volatility. The model captures much of the history of stock prices from consumption data. It explains the short‐and long‐run equity premium puzzles despite a low and constant risk‐free rate. The results are essentially the same whether we model stocks as a claim to the consumption stream or as a claim to volatile dividends poorly corelated with consumption. The model is driven by an independently and identically distributed consumption growth process and adds a slow ‐moving external habit to the standard power utility function. These features generate slow countercyclical variation in risk premia. The model posits a fundamentally novel description of risk premia. Investors fear stocks primarily because they do poorly in recessions unrelated to the risks of long‐run average consumption growth.
Published Version: http://dx.doi.org/10.1086/250059
Terms of Use: This article is made available under the terms and conditions applicable to Other Posted Material, as set forth at http://nrs.harvard.edu/urn-3:HUL.InstRepos:dash.current.terms-of-use#LAA
Citable link to this page: http://nrs.harvard.edu/urn-3:HUL.InstRepos:3119444

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  • FAS Scholarly Articles [7218]
    Peer reviewed scholarly articles from the Faculty of Arts and Sciences of Harvard University
 
 

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