On the Stock Market Variance-Return or Price Relations: A Tale Of Two Variances

80 Pages Posted: 26 Mar 2018 Last revised: 8 Feb 2019

See all articles by Hui Guo

Hui Guo

University of Cincinnati - Department of Finance - Real Estate

Qian Lin

Wuhan University - School of Economics and Management

Yu-Jou Pai

Concordia University

Date Written: September 14, 2018

Abstract

Stock market variance-return or price relations are sometimes negative and sometimes positive. We explain these puzzling findings using a model with two ("bad" and "good") variances. In the model, conditional equity premium depends positively on bad variance and negatively on good variance. Market prices, which correlate negatively with discount rates, decrease with bad variance and increase with good variance. Because market variance is the sum of bad and good variances, its relation to conditional equity premium or market prices can be negative or positive, depending on relative importance of two variances. Our empirical results support model's main implications.

Keywords: Stock Market Variance, Good Variance, Bad Variance, Conditional Equity Premium, Stock Market Return Predicability, and Anomalies

JEL Classification: C6, E2, G1

Suggested Citation

Guo, Hui and Lin, Qian and Pai, Yu-Jou, On the Stock Market Variance-Return or Price Relations: A Tale Of Two Variances (September 14, 2018). Available at SSRN: https://ssrn.com/abstract=3149682 or http://dx.doi.org/10.2139/ssrn.3149682

Hui Guo (Contact Author)

University of Cincinnati - Department of Finance - Real Estate ( email )

College of Business
418 Carl H. Lindner Hall
Cincinnati, OH 45221
United States
513.556.7077 (Phone)
513.556.0979 (Fax)

HOME PAGE: http://homepages.uc.edu/~guohu/

Qian Lin

Wuhan University - School of Economics and Management ( email )

Wu Han, Hu-Bai 430072
China

Yu-Jou Pai

Concordia University ( email )

Montreal, Quebec
Canada

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