Three Dogs That Did Not Bark: Risk Premia and Stock Market Shocks
- Thereʼs a bone of contention among investors: Are U.S. equity values about right or far too high?
- Based on the equity risk premium, stocks are either marginally expensive or fairly valued (depending on the data window).
- Yet standard valuation ratios – such as market capitalization-to-GDP, Tobin’s Q, CAPE and market cap-to-corporate profits – suggest stock prices are severely inflated.
- Equity values are vulnerable to three types of risk premia: the conventional equity risk premium, the risk of monetary tightening and the prospect of decreasing inequality.
For an abridged version of this article, read our blog post, "U.S. Equity Values: The Three Dogs That Have Not Barked."