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22
Presidential address: The cost of active investing
 Journal of Finance
, 2008
"... I compare the fees, expenses, and trading costs society pays to invest in the U.S. stock market with an estimate of what would be paid if everyone invested passively. Averaging over 1980–2006, I find investors spend 0.67 % of the aggregate value of the market each year searching for superior returns ..."
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I compare the fees, expenses, and trading costs society pays to invest in the U.S. stock market with an estimate of what would be paid if everyone invested passively. Averaging over 1980–2006, I find investors spend 0.67 % of the aggregate value of the market each year searching for superior returns. Society’s capitalized cost of price discovery is at least 10 % of the current market cap. Under reasonable assumptions, the typical investor would increase his average annual return by 67 basis points over the 1980–2006 period if he switched to a passive market portfolio. HOW MUCH DO INVESTORS SPEND TRYING to beat the market? To answer this question, I start by estimating the total amount society spends to invest. I measure four components: the fees and expenses investors pay for mutual funds, including openend funds, closedend funds, and exchangetraded funds; the investment management costs of institutional investors; the fees investors pay for hedge funds and funds of hedge funds; and the costs all investors pay to trade. I then compare these costs to what society would pay if all investors held a passive market portfolio. The difference is the cost of active investing. Consider a small but representative investor whose initial investment strategy is the valueweight combination of all investors ’ strategies. Because the valueweight combination of all investors ’ portfolios is the market portfolio, the representative investor’s initial return is the gross return on the market minus the valueweight average of all investors ’ costs. How would his return be
Public Pension Promises: How Big Are They and What Are They Worth?”
 Journal of Finance, forthcoming.
, 2011
"... Abstract We calculate two present value measures of alreadypromised state pension liabilities using discount rates that reflect their risk. If benefits have the same priority in default as general obligation debt, aggregate underfunding is $1.21 trillion. If states cannot default on these benefits ..."
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Cited by 46 (3 self)
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Abstract We calculate two present value measures of alreadypromised state pension liabilities using discount rates that reflect their risk. If benefits have the same priority in default as general obligation debt, aggregate underfunding is $1.21 trillion. If states cannot default on these benefits, underfunding is $3.12 trillion. The first measure is a lower bound on the value of the liability to taxpayers, and is more than the $0.94 trillion in state municipal debt. The second measure is a better benchmark for funding adequacy. We also estimate broader concepts of accrued liabilities that account for projected salary growth and future service.
Equity Premium: Historical, Expected, Required and Implied
 IESE Business School
, 1986
"... ABSTRACT The equity premium designates four different concepts: Historical Equity Premium (HEP); Expected Equity Premium (EEP); Required Equity Premium (REP); and Implied Equity Premium (IEP). We highlight the confusing message in the literature regarding the equity premium and its evolution. The c ..."
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ABSTRACT The equity premium designates four different concepts: Historical Equity Premium (HEP); Expected Equity Premium (EEP); Required Equity Premium (REP); and Implied Equity Premium (IEP). We highlight the confusing message in the literature regarding the equity premium and its evolution. The confusion arises from not distinguishing among the four concepts and from not recognizing that although the HEP is equal for all investors, the REP, the EEP and the IEP differ for different investors. A unique IEP requires assuming homogeneous expectations for the expected growth (g), but we show that there are several pairs (IEP, g) that satisfy current prices. We claim that different investors have different REPs and that it is impossible to determine the REP for the market as a whole, because it does not exist. We also investigate the relationship between (IEP g) and the risk free rate. There is a kind of schizophrenic approach to valuation: while all authors admit different expectations of equity cash flows, most authors look for a unique discount rate. It seems as if the expectations of equity cash flows are formed in a democratic regime, while the discount rate is determined in a dictatorship. JEL Classification: G12, G31, M21
How useful are historical data for forecasting the longrun equity return distribution? Working Papers tecipa293
, 2007
"... Abstract We provide an optimal approach to forecasting the longrun (unconditional) equity premium in the presence of structural breaks. This forecasting procedure determines in real time how useful historical data are in updating our prior belief about the distribution of market excess returns. Th ..."
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Abstract We provide an optimal approach to forecasting the longrun (unconditional) equity premium in the presence of structural breaks. This forecasting procedure determines in real time how useful historical data are in updating our prior belief about the distribution of market excess returns. The value of historical data has varied considerably, implying that ignoring structural breaks or using a rolling window is not optimal. We obtain realistic outofsample forecasts for the entire 18852003 period; the forecast at the end of the sample is 4.02 for the structural break model and 5.10 for a nobreak model. The results are robust to a widerange of distributional assumptions about excess returns.
Forecasting the equity risk premium: The role of technical indicators
 Management Science
, 2014
"... Forecasting the Equity Risk Premium: The Role of Technical Indicators Abstract Do existing equity risk premium forecasts ignore useful information, such as technical indicators? Although academics have extensively used macroeconomic variables to forecast the U.S. equity risk premium, they have paid ..."
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Forecasting the Equity Risk Premium: The Role of Technical Indicators Abstract Do existing equity risk premium forecasts ignore useful information, such as technical indicators? Although academics have extensively used macroeconomic variables to forecast the U.S. equity risk premium, they have paid relatively little attention to the technical stock market indicators widely employed by practitioners. Our paper fills this gap by studying the forecasting ability of technical indicators relative to popular macroeconomic variables. We find that technical indicators display statistically and economically significant outofsample forecasting power and generate substantial utility gains; moreover, technical indicators tend to detect the typical decline in the equity risk premium near cyclical peaks, while macroeconomic variables more readily pick up the typical rise near cyclical troughs. In line with this cyclical behavior, utilizing information from both technical indicators and macroeconomic variables substantially increases outofsample forecasting performance relative to either alone. JEL classification: C53, C58, E32, G11, G12, G17
2011 Market Risk Premium Used in 56 Countries in 2011: A Survey with 6,014 Answers. Available at SSRN: http://ssrn.com/abstract=1822182
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Nominal bonds, real bonds, and equity
, 2011
"... We decompose the term structure of expected equity returns into (1) the real short rate, (2) a premium for holding real longterm bonds, or the real duration premium, the excess returns of nominal longterm bonds over real bonds which reflects (3) expected inflation and (4) inflation risk, and (5) a ..."
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We decompose the term structure of expected equity returns into (1) the real short rate, (2) a premium for holding real longterm bonds, or the real duration premium, the excess returns of nominal longterm bonds over real bonds which reflects (3) expected inflation and (4) inflation risk, and (5) a real cashflow risk premium, which is the excess return of equity over nominal bonds. All of these risk premiums vary over time. The shape of the unconditional nominal and real bond yield curves are upward sloping due to increasing duration and inflation risk premiums. The average term structures of expected equity returns and equity risk premiums, in contrast, are downward sloping due to the decreasing effect of shortterm expected inflation, or trend inflation, across horizons. Around 70 % of the variation of expected equity returns at the 10year horizon is due to variation in the output gap and trend inflation. 1
Maximum likelihood estimation of the equity premium
, 2013
"... The sample average of the expected return on stocks over bonds is 5.2% as measured by log returns over the postwar period. We write down a simple specification for the expected excess return that allows for predictability. Estimating this specification by maximum likelihood leads to an economically ..."
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The sample average of the expected return on stocks over bonds is 5.2% as measured by log returns over the postwar period. We write down a simple specification for the expected excess return that allows for predictability. Estimating this specification by maximum likelihood leads to an economically significant reduction in expected excess return: to 3.9%. Using simulations, we show that our method is substantially less noisy in finite samples than the traditional sample mean.
The CrossSection of Hurdle Rates for Capital Budgeting: An Empirical Analysis of Survey Data
, 2011
"... design of the survey. This research is sponsored by the Zell Center for Risk Research and we are indebted ..."
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design of the survey. This research is sponsored by the Zell Center for Risk Research and we are indebted
unknown title
, 2014
"... Market Risk Premium used in 88 countries in 2014: a survey with 8,228 answers ..."
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Market Risk Premium used in 88 countries in 2014: a survey with 8,228 answers