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Can economic policy uncertainty predict stock returns? Global evidence

journal contribution
posted on 01.07.2018, 00:00 authored by D H B Phan, Susan SharmaSusan Sharma, Vuong Thao Tran
This paper, using data for 16 countries, tests whether economic policy uncertainty (EPU) predicts stock excess returns. First, we show that the ability of EPU to forecast stock returns depends not only on the country used, but also on the sectors examined. This indicates that forecasting of returns is country-dependent (sector-dependent), suggesting that EPU is relatively more important for some countries (sectors) than others. Second, we test whether the predictability of EPU is from either or both the cash flow and discount rate channels. Our results support the discount rate channel over the cash flow channel. Third, we use positive and negative EPU shocks to predict stock excess returns and find evidence of asymmetric predictability. Finally, we consider a mean–variance investor and show that such investor has positive utility by following forecasts generated from the EPU-based model. Our results are consistent with a number of robustness tests.

History

Journal

Journal of international financial markets, institutions and money

Volume

55

Pagination

134 - 150

Publisher

Elsevier

Location

Amsterdam, The Netherlands

ISSN

1042-4431

Language

eng

Publication classification

C Journal article; C1 Refereed article in a scholarly journal

Copyright notice

2018, Elsevier B.V.