Hostname: page-component-78c5997874-dh8gc Total loading time: 0 Render date: 2024-11-05T19:51:30.992Z Has data issue: false hasContentIssue false
  • English
  • Français

Consumption Growth Persistence and the Stock–Bond Correlation

Published online by Cambridge University Press:  01 April 2024

Christopher S. Jones  and
Sungjune Pyun Open the ORCID record for Sungjune Pyun [Opens in a new window]
Christopher S. Jones
Affiliation:
University of Southern California Marshall School of Business [email protected]
Sungjune Pyun*
Affiliation:
Yonsei University School of Business
*
[email protected] (corresponding author)
Rights & Permissions [Opens in a new window]

Abstract

Core share and HTML view are not available for this content. However, as you have access to this content, a full PDF is available via the ‘Save PDF’ action button.

We consider a model in which the correlation between shocks to consumption and to expected future consumption growth is nonzero and varies over time. We validate this assumption empirically using the model’s implication that time variation in consumption growth persistence (CGP) drives the correlation between stock and bond returns. Our model implies that the stock–bond correlation is also related to the predictive relation between bond yields and future stock returns. Finally, we provide suggestive evidence that asset price fluctuations are the primary driver of changes in CGP.

Type
Research Article
Information
Journal of Financial and Quantitative Analysis , First View , pp. 1 - 29
Creative Commons
Creative Common License - CCCreative Common License - BY
This is an Open Access article, distributed under the terms of the Creative Commons Attribution licence (http://creativecommons.org/licenses/by/4.0), which permits unrestricted re-use, distribution and reproduction, provided the original article is properly cited.
Copyright
© The Author(s), 2024. Published by Cambridge University Press on behalf of the Michael G. Foster School of Business, University of Washington

Footnotes

We thank Thierry Foucault (the editor), Allaudeen Hameed, Scott Joslin, Mete Kilic, Toomas Laarits (the referee), Lars Lochstoer, Miguel Palacios, Thomas Sargent, Johan Sulaeman, Selale Tuzel, participants at the 2021 Risk Management Conference, 2021 NFA Annual Meetings, Korea University, National University of Singapore, and University of Southern California. This research was supported by the Yonsei Business Research Institute and Yonsei University Research Fund 2023-22-0444. All errors are our own.

References

Ang, A., and Bekaert, G.. “Stock Return Predictability: Is it There?” Review of Financial Studies, 20 (2007), 651–707.CrossRefGoogle Scholar
Ang, A.; Bekaert, G.; and Wei, M.. “The Term Structure of Real Rates and Expected Inflation.” Journal of Finance, 63 (2008), 797–849.CrossRefGoogle Scholar
Baele, L.; Bekaert, G.; and Inghelbrecht, K.. “The Determinants of Stock and Bond Return Comovements.” Review of Financial Studies, 23 (2010), 2374–2428.CrossRefGoogle Scholar
Bansal, R.; Kiku, D.; and Yaron, A.. “An Empirical Evaluation of the Long-Run Risks Model for Asset Prices.” Critical Finance Review, 1 (2012), 183–221.CrossRefGoogle Scholar
Bansal, R., and Yaron, A.. “Risks for the Long Run: A Potential Resolution of Asset Pricing Puzzles.” Journal of Finance, 59 (2004), 1481–1509.CrossRefGoogle Scholar
Barr, D. G., and Campbell, J. Y.. “Inflation, Real Interest Rates, and the Bond Market: A Study of UK Nominal and Index-Linked Government Bond Prices.” Journal of Monetary Economics, 39 (1997), 361–383.CrossRefGoogle Scholar
Basu, S., and Bundick, B.. “Uncertainty Shocks in a Model of Effective Demand.” Econometrica, 85 (2017), 937–958.CrossRefGoogle Scholar
Breeden, D. T.; Gibbons, M. R.; and Litzenberger, R. H.. “Empirical Test of the Consumption-Oriented CAPM.” Journal of Finance, 44 (1989), 231–262.Google Scholar
Breen, W.; Glosten, L. R.; and Jagannathan, R.. “Economic Significance of Predictable Variations in Stock Index Returns.” Journal of Finance, 44 (1989), 1177.CrossRefGoogle Scholar
Campbell, J., and Deaton, A.. “Why is Consumption so Smooth?” Review of Economic Studies, 56 (1989), 357–373.CrossRefGoogle Scholar
Campbell, J. Y.; Pflueger, C.; and Viceira, L. M.. “Macroeconomic Drivers of Bond and Equity Risks.” Journal of Political Economy, 128 (2020), 3148–3185.CrossRefGoogle Scholar
Campbell, J. Y.; Sunderam, A.; and Viceira, L. M.. “Inflation Bets or Deflation Hedges? The Changing Risks of Nominal Bonds.” Critical Finance Review, 6 (2017), 263–301.CrossRefGoogle Scholar
Campbell, J. Y., and Thompson, S. B.. “Predicting Excess Stock Returns Out of Sample: Can Anything Beat the Historical Average?” Review of Financial Studies, 21 (2008), 1509–1531.CrossRefGoogle Scholar
Carroll, C. D. “Buffer-Stock Saving and the Life Cycle/Permanent Income Hypothesis.” Quarterly Journal of Economics, 112 (1997), 1–55.CrossRefGoogle Scholar
Carroll, C. D., and Samwick, A. A.. “How Important is Precautionary Saving?” Review of Economics and Statistics, 80 (1998), 410–419.CrossRefGoogle Scholar
Chen, H.; Michaux, M.; and Roussanov, N.. “Houses as ATMs: Mortgage Refinancing and Macroeconomic Uncertainty.” Journal of Finance, 75 (2020), 323–375.CrossRefGoogle Scholar
Chernov, M.; Lochstoer, L. A.; and Song, D.. “The Real Explanation of Nominal Bond-Stock Puzzles.” UCLA and Johns Hopkins (2021).CrossRefGoogle Scholar
Connolly, R.; Stivers, C.; and Sun, L.. “Stock Market Uncertainty and the Stock-Bond Return Relation.” Journal of Financial and Quantitative Analysis, 40 (2005), 161–194.CrossRefGoogle Scholar
D’Amico, S.; Kim, D. H.; and Wei, M.. “Tips from TIPS: The Informational Content of Treasury Inflation-Protected Security Prices.” Journal of Financial and Quantitative Analysis, 53 (2018), 395–436.CrossRefGoogle Scholar
David, A., and Veronesi, P.. “What Ties Return Volatilities to Price Valuations and Fundamentals?” Journal of Political Economy, 121 (2013), 682–746.CrossRefGoogle Scholar
Dudley, W.; Roush, J.; and Ezer, M. S.. “The Case for TIPS: An Examination of the Costs and Benefits.” Federal Reserve Economic Policy Review, New York, NY (2009).Google Scholar
Duffee, G. R. “Expected Inflation and Other Determinants of Treasury Yields.” Journal of Finance, 73 (2018a), 2139–2180.CrossRefGoogle Scholar
Epstein, L. G., and Zin, S. E.. “Substitution, Risk Aversion, and the Temporal Behavior of Consumption and Asset Returns: An Empirical Analysis.” Journal of Political Economy, 99 (1991), 263–286.CrossRefGoogle Scholar
Fama, E. F. “Short-Term Interest Rates as Predictors of Inflation.” American Economic Review, 65 (1975), 269–282.Google Scholar
Fama, E. F., and Schwert, G.. “Asset Returns and Inflation.” Journal of Financial Economics, 5 (1977), 115–146.CrossRefGoogle Scholar
Goyal, A.; Welch, I.; and Zafirov, A.. “A Comprehensive Look at the Empirical Performance of Equity Premium Prediction II.” UCLA and University of Lausanne (2021).CrossRefGoogle Scholar
Grossman, S. J., and Laroque, G.. “Asset Pricing and Optimal Portfolio Choice in the Presence of Illiquid Durable Consumption Goods.” Econometrica, 58 (1990), 25–51.CrossRefGoogle Scholar
Gürkaynak, R. S.; Sack, B.; and Wright, J. H.. “The TIPS Yield Curve and Inflation Compensation.” American Economic Journal: Macroeconomics, 2 (2010), 70–92.Google Scholar
Hall, R. E., and Mishkin, F. S.. “The Sensitivity of Consumption to Transitory Income: Estimates from Panel Data on Households.” Econometrica, 50 (1982), 461–481.CrossRefGoogle Scholar
Hasseltoft, H. “Stocks, Bonds, and Long-Run Consumption Risks.” Journal of Financial and Quantitative Analysis, 47 (2012), 309–332.CrossRefGoogle Scholar
Heaton, J. “The Interaction Between Time-Nonseparable Preferences and Time Aggregation.” Econometrica, 61 (1993), 353–385.CrossRefGoogle Scholar
Ilmanen, A. “Stock-Bond Correlations.” Journal of Fixed Income, 13 (2003), 55–66.CrossRefGoogle Scholar
Jagannathan, R., and Wang, Y.. “Lazy Investors, Discretionary Consumption, and the Cross-Section of Stock Returns.” Journal of Finance, 62 (2007), 1623–1661.CrossRefGoogle Scholar
Kaltenbrunner, G., and Lochstoer, L. A.. “Long-Run Risk Through Consumption Smoothing.” Review of Financial Studies, 23 (2010), 3190–3224.CrossRefGoogle Scholar
Kozak, S. “Dynamics of Bond and Stock Returns.” Journal of Monetary Economics, 126 (2022), 188–209.CrossRefGoogle Scholar
Kroencke, T. A. “Asset Pricing Without Garbage.” Journal of Finance, 72 (2017), 47–98.CrossRefGoogle Scholar
Laibson, D., and Mollerstrom, J.. “Capital Flows, Consumption Booms and Asset Bubbles: A Behavioural Alternative to the Savings Glut Hypothesis.” Economic Journal, 120 (2010), 354–374.CrossRefGoogle Scholar
Lettau, M., and Ludvigson, S.. “Consumption, Aggregate Wealth, and Expected Stock Returns.” Journal of Finance, 56 (2001), 815–849.CrossRefGoogle Scholar
Lettau, M., and Ludvigson, S. C.. “Understanding Trend and Cycle in Asset Values: Reevaluating the Wealth Effect on Consumption.” American Economic Review, 94 (2004), 276–299.CrossRefGoogle Scholar
Lynch, A. W. “Decision Frequency and Synchronization Across Agents: Implications for Aggregate Consumption and Equity Return.” Journal of Finance, 51 (1996), 1479–1497.CrossRefGoogle Scholar
Mian, A., and Sufi, A.. “House Prices, Home Equity–Based Borrowing, and the US Household Leverage Crisis.” American Economic Review, 101 (2011), 2132–2156.CrossRefGoogle Scholar
Mishkin, F. S. “Is the Fisher Effect for Real?” Journal of Monetary Economics, 30 (1992), 195–215.CrossRefGoogle Scholar
Nakamura, E.; Sergeyev, D.; and Steinsson, J.. “Growth-Rate and Uncertainty Shocks in Consumption: Cross-Country Evidence.” American Economic Journal: Macroeconomics, 9 (2017), 1–39.Google Scholar
Parker, J. A., and Preston, B.. “Precautionary Saving and Consumption Fluctuations.” American Economic Review, 95 (2005), 1119–1143.CrossRefGoogle Scholar
Pástor, L., and Stambaugh, R. F.. “Liquidity Risk and Expected Stock Returns.” Journal of Political Economy, 111 (2003), 642–685.CrossRefGoogle Scholar
Savov, A. “Asset Pricing with Garbage.” Journal of Finance, 66 (2011), 177–201.CrossRefGoogle Scholar
Song, D. “Bond Market Exposures to Macroeconomic and Monetary Policy Risks.” Review of Financial Studies, 30 (2017), 2761–2817.CrossRefGoogle Scholar
Swanson, E. “A Macroeconomic Model of Equities and Real, Nominal, and Defaultable Debt.” Federal Reserve Bank of San Francisco (2019).Google Scholar
Welch, I., and Goyal, A.. “A Comprehensive Look at the Empirical Performance of Equity Premium Prediction.” Review of Financial Studies, 21 (2008), 1455–1508.CrossRefGoogle Scholar
Supplementary material: File

Jones and Pyun supplementary material

Jones and Pyun supplementary material
Download Jones and Pyun supplementary material(File)
File 299.9 KB