Research Articles

Predicting Global Stock Returns

Erik Hjalmarssona1

a1 Federal Reserve Board, Mail Stop 20, Washington, DC 20551.


I test for stock return predictability in the largest and most comprehensive data set analyzed so far, using four common forecasting variables: the dividend-price (DP) and earnings-price (EP) ratios, the short interest rate, and the term spread. The data contain over 20,000 monthly observations from 40 international markets, including 24 developed and 16 emerging economies. In addition, I develop new methods for predictive regressions with panel data. Inference based on the standard fixed effects estimator is shown to suffer from severe size distortions in the typical stock return regression, and an alternative robust estimator is proposed. The empirical results indicate that the short interest rate and the term spread are fairly robust predictors of stock returns in developed markets. In contrast, no strong or consistent evidence of predictability is found when considering the EP and DP ratios as predictors.


I am very grateful to Peter Phillips and Robert Shiller for providing much useful advice. Other helpful comments have been provided by Don Andrews, Stephen Brown (the editor), Jon Faust, Lennart Hjalmarsson, Randi Hjalmarsson, Yuichi Kitamura, George Korniotis, Ugur Lel, Edith Liu, Vadim Marmer, Alex Maynard, Pär Österholm, Taisuke Otsu, Kevin Song, Allan Timmermann (the referee), Jon Wongswan, Jonathan Wright, as well as participants in the summer workshop and econometrics seminar at Yale University, the international finance seminar at the Federal Reserve Board, the finance seminar at Göteborg University, and the European Summer Meeting of the Econometric Society in Vienna. The views in this paper are solely the responsibility of the author and should not be interpreted as reflecting the views of the Board of Governors of the Federal Reserve System or of any other person associated with the Federal Reserve System.