Correlations

Ehling, P and Heyerdahl-Larsen, C (2016) Correlations. Management Science, 63 (6). pp. 1919-1937. ISSN 0025-1909

Abstract

Correlations of equity returns have varied substantially over time and remain a source of continuing policy debate. This paper studies stock market correlations in an equilibrium model with heterogeneous risk aversion. In the model, preference heterogeneity causes variations in the volatility of aggregate risk aversion from good to bad states. At times of high volatility in aggregate risk aversion, which is a common factor in returns, we see high correlations. The model matches average industry return correlations and changes in correlations from business cycle peaks to troughs and replicates the dynamics of expected excess returns and standard deviations. Model-implied aggregate risk aversion explains average industry correlations, expected excess returns, standard deviations, and turnover volatility in the data. We find supportive evidence for the model’s prediction that industries with low dividend-consumption correlation have low average return correlation but experience disproportional increases in return correlations in recessions.

More Details

[error in script]
Item Type: Article
Subject Areas: Finance
Additional Information:

© 2017 INFORMS

Date Deposited: 17 Nov 2016 14:03
Subjects: Portfolio investment
Risk
Last Modified: 29 Mar 2024 02:47
URI: https://lbsresearch.london.edu/id/eprint/615
[error in script] More

Export and Share


Download

Full text not available from this repository.

Statistics

Altmetrics
View details on Dimensions' website

Downloads from LBS Research Online

View details

Actions (login required)

Edit Item Edit Item