Corporate Bond Yield Spreads in Recent Decades: Trends, Changes, and Stock

Market Linkages
Douglas J. Lamdin
Department of Economics
University of Maryland, Baltimore County
1000 Hilltop Circle
Baltimore, MD 21250
Phone: 410-455-2160
Fax: 410-455-1054
E-mail: lamdin@umbc.edu
JEL Classifications: G0, G1, E4
September 2003
Abstract
Corporate bond interest rates are a subject of concern to investment analysts, corporate
financial managers, and scholars. In this article the yield spreads between corporate
bonds and government bonds, and between differing quality corporate bonds is examined
during recent decades. Also, the relationship between yield spreads and stock market
movements is examined. Yield spreads vary considerably over this period, and have
varying trends. Causality tests show that stock market movements precede changes in
yield spreads.

Corporate Bond Yield Spreads in Recent Decades: Trends, Changes, and Stock
Market Linkages
1. Introduction
Corporate bond interest rates and associated yield spreads are core topics in
financial economics. What determines the level of, and changes in these variables is
important to a variety of financial analysts. An examination of these variables and
relationships between them, as well as possible linkages between yield spreads and stock
market behavior is the focus of this article. In particular, changes in yield spreads
between high and medium quality corporate bonds and Treasury bonds are examined, as
are changes in the spread between the differing quality corporate bonds. How these may
relate to aggregate stock market behavior is considered. At issue is the extent to which
changes in yield spreads and stock valuation may be linked in a causal or predictive
way.
The findings of this study should matter to scholars and practitioners. The former
seek to better understand the workings of financial markets and how they might have
changed in recent years. Financial market activity also has an impact on the real
economy as interest rates affect investment at the firm level, and at the macroeconomic
level.1 Practitioners such as security analysts and portfolio managers, investment
bankers, and corporate financial managers, will also find these results of interest as they
seek to improve their decision-making processes. For example, asset allocation
decisions, and the timing of bond issues would be of concern to them.
The structure of the article is as follows. The next section discusses how and why
the variables of interest have changed over recent decades. Data on these variables are

examined to detect trends and changes from 1970 to the present. Thus, the data
examined are timely, but also cover a sufficient period to discern long-term trends. As
will be shown, there has been much variation in these variables. The third section
examines changes in the equity risk premium (ERP) during this period. The ERP is the
additional return equity investors expect to earn above the risk-free return on government
bonds. Recent research suggests that the ERP has declined, and thus it might be related
to bond yield spread behavior. The next section describes econometric causality tests.
These are then used to examine the possible relationship between movements in yield
spreads and stock market movements. A final section concludes and discusses the
significance and implications of the results.
2. A Preliminary Examination of the Data
Variations in interest rates are a given in financial market history. Changes in
macroeconomic factors (e.g., inflation, the business cycle) cause these fluctuations.
Investor perceptions of risk, of course, are a primary variable that affects both interest
rates and stock market valuations. Interest rates tend to move together due to common
influences, such as inflation. However, the difference between corporate and government
bond rates, and between corporate bonds of different quality is not constant. This
difference is the yield spread (or default spread, or quality spread). In general, when
economic uncertainty is higher (e.g., during recessions) these spreads widen.2
Yield spreads on different risk-classes of bonds will reflect the perceived relative
risk of these assets other things, primarily maturity, equal. Just as the difference between
the expected return on corporate bonds and government bonds will reflect primarily the
default risk of corporate bonds, so will differences in yields across corporate bonds. For

example, Moodys rates corporate bonds (e.g., Aaa, Baa, and so on), and the higher the
risk the higher the expected return necessary to compensate investors.
The concern here is with the time-series behavior of bond rates and yield spreads.
Monthly data from February 1970 to May 2003 were collected for the current promised
yield on Aaa and Baa corporate bonds, and for 10-year Treasury bonds.3 During this
period the monthly promised yield on the Treasury bonds (T) averaged 7.93 percent with
a standard deviation of 2.38 percent. For Aaa bonds these values were 8.87 percent and
2.08 percent. For Baa bonds these values were 9.98 percent and 2.40 percent. The Aaa Treasury (Aaa - T) yield spread averaged 0.95 percent during this period, with a standard
deviation of 0.48. The (Baa - T) yield spread averaged 2.05 percent with a standard
deviation of 0.58. The (Baa - Aaa) yield spread averaged 1.10 percent with a standard
deviation of 0.43. These statistics provide a sense of the size and degree of dispersion of
these variables, but do not tell us how the rates or spreads move together, nor does it tell
us of any trends in them.
How are these interest rates and yield spreads related? One way to determine this
is to examine the correlations among the contemporaneous values of the variables. For
example, if the Aaa and Baa bond rates move in lockstep, the correlation coefficient will
be +1.0. The various correlation coefficients are shown in Table 1. The Table shows that
the levels of the three interest rates move closely together, with all of the correlations
close to one. It might be concluded that because of this the yield spreads are similarly
correlated. But this is not exactly the case. The correlation between the (Aaa - T) spread
and the (Baa - T) spread is a strong 0.683. Similarly, the (Baa - T) and (Baa - Aaa)

spreads tend to move together, with a 0.597 correlation coefficient. Conversely, the (Aaa
- T) and (Baa - Aaa) correlation coefficient is -0.179.
An interesting pattern to note is that when the level of the bond rates changes, the
yield spreads move in different directions. The (Aaa - T) spread moves in the opposite
direction as the level of all of the interest rates with the correlation coefficients ranging
from -0.528 to -0.699. The (Baa - Aaa) spread moves in the same direction as the level
of the interest rates with the correlation coefficients ranging from 0.690 to 0.779. The
(Baa - T) spread is basically independent of the level of the interest rates with the
correlation coefficients ranging from -0.097 to 0.147.

______________________________________________________________________________________
Table 1: Correlations of Bond Rates and Yield Spreads (Monthly data: 2/70-5/03)
Aaa
Treasury
Aaa
Baa

0.986

Baa

Aaa - T

Baa - T

Baa - Aaa

0.970

-0.699

-0.097

0.673

0.991

-0.572

0.046

0.690

-0.528

0.147

0.779

0.683

-0.179

Aaa - T
Baa - T

0.597

______________________________________________________________________________________

The rates themselves are not of primary interest here, and we have seen that they
move together closely. Of greater interest are the changes in the yield spreads. In Table
2, the correlations between contemporaneous changes in the levels of the interest rates
and the changes in the yield spreads are examined. Also added is a measure of the
change in stock market value--the monthly total rate of return on the S&P 500 Index.4
The changes in the levels of the interest rates move together with correlation coefficients

above 0.8. The yield spread changes, however, show a different pattern. Changes in the
Treasury rate are negatively related to all of the yield spreads as well as the stock market.
The change in the stock market is negatively related to changes in the Aaa and Baa rates
as well. The relationship between the stock market and the yield spreads is positive,
though weak.

______________________________________________________________________________________
Table 2: Correlations of the Changes in Bond Rates, Yield Spreads, and the Stock Market (Monthly data:
2/70-5/03)

Treasury
Aaa

Aaa

Baa

0.909

0.816
0.893

(Aaa T)

Baa
(Aaa T)

(Baa T)

(Baa Aaa)

S&P Return

-0.652

-0.708

-0.372

-0.225

-0.276

-0.459

-0.419

-0.240

-0.257

-0.169

0.035

-0.235

0.800

0.085

0.090

0.666

0.101

(Baa T)
(Baa Aaa)

0.056

______________________________________________________________________________________

To examine any trend in the spreads, regression equations were estimated with the
spreads as the dependent variable and a time trend variable as the independent variable.
The results are summarized below with the t-ratios for the regression coefficients in
parentheses.
(Aaa - T) = 0.485 + 2.315*E-3*TIME
(13.5)

R2 = 0.315
D-W = 0.134

(Baa - T) = 1.850 + 9.912*E-4*TIME

(4.0)

R2 = 0.038
D-W = 0.116

(Baa - Aaa) = 1.365 1.323*E-3*TIME

(-7.5)

R2 = 0.124
D-W = 0.085

There appears to be a trend in each yield spread. The (Aaa - T) and (Baa - T)
spreads have increased over time. For example, the results imply that each 60 months the
(Aaa - T) spread has risen by 60*0.002351 = 0.14 percent. This suggests that investors
have increasingly required relatively higher returns on corporate bonds in general. This
is consistent with Woolridges (1995) claim that bonds have become more risky relative
to stocks.5 The (Aaa - T) regression has by far the best fit with an R-squared value of
0.315. The R-squared values for the (Baa - T) and (Baa - Aaa) spreads are only 0.038
and 0.124. The negative coefficient on time in the (Baa - Aaa) model suggests that the
quality spread has declined. The implication is that there has been a decline in the
relative risk of the lower-quality Baa bonds. The obvious explanation is that investors,
for a given level of relative risk, do not require as much additional compensation as in
previous years. Another explanation is that the lower-quality bonds are increasingly of
higher relative quality although they have the same rating by Moodys. That is, ratings
have become more stringent over time. The study of Blume et al. (1998), which uses
Standard and Poors ratings, suggests that this has occurred.
The time trend variable does not fully explain the movement in the spreads given
that the R-squared values are well below one. The Durbin-Watson statistics show quite a
bit of positive serial correlation, which is not surprising given the cyclical nature of the
yield spreads. Because the purpose at hand is simply to detect any trend, serial
correlation corrections were not done.

To see the extent to which this trend in yield spreads has been a more recent
phenomenon, or may be sensitive to particular time periods, a dummy variable was added
to each model. The dummy is set equal to one for all observations in 2001 through 2003.
This corresponds to the period in which the stock market decline was well underway, and
also subsumes the post 9/11 terrorist attack period. This is summarized below. In each
case the coefficient on the dummy variable (D01-03) was positive and statistically
significant. Moreover, the size is economically significant. For example, the coefficient
for the (Baa - T) model implies a higher spread of 1.1 in 2001-2003. For the (Aaa - T)
and (Baa - Aaa) models these are 0.795 and 0.324 percent. After treating 2001-2003
separately, the (Aaa - T) spread still has a positive and significant trend. The (Baa - T)
spread no longer has a significant trend. The significant negative trend in the (Baa - Aaa)
spread still exists. Again, the three yield spreads do not all follow an identical pattern
from 1970-2003.
(Aaa - T) = 0.588 + 1.513*E-3*TIME + 0.795*D01-03
(8.9)
(10.5)

R2 = 0.465
D-W = 0.184

(Baa - T) = 1.995 - 1.370*E-4*TIME + 1.118*D01-03

(-0.5)
(10.1)

R2 = 0.236
D-W = 0.158

(Baa - Aaa) = 1.407 - 1.650*E-3*TIME + 0.324*D01-03

(-8.5)
(3.7)

R2 = 0.154
D-W = 0.090

As mentioned earlier, yield spreads tend to move with the state of the economy.
To see whether the results reported thus far are affected by this, the monthly
unemployment rate was added to the models. This is shown below. The coefficient on
the unemployment rate is positive in the case of the (Baa - T) and (Baa - Aaa) spreads as
would be expected. Moreover, the increment to the R-squared from the addition of the
unemployment rate is substantial in these cases. A less robust economy increases these

yield spreads. Conversely, the (Aaa - T) spread is negatively related to the

unemployment rate, although the effect is small and the increment to the R-squared is
small as well. In all cases the 2001-2003 dummy remains positive and of similar size.
The time trend is significantly positive for the (Aaa - T) and (Baa - T) spreads. It remains
significantly negative for the (Baa - Aaa) spread.

(Aaa - T) = 0.745 + 1.422*E-3*TIME + 0.792*D01-03 2.199E-2*UR

(8.0)
(10.5)
(-1.7)

R2 = 0.468
D-W = 0.186

(Baa - T) = 0.631 + 6.579*E-4*TIME + 1.145*D01-03 + 0.192*UR

(2.9)
(11.9)
(11.4)

R2 = 0.423
D-W = 0.202

(Baa - Aaa) = -0.113 - 7.639*E-4*TIME + 0.353*D01-03 + 0.241*UR

(-5.3)
(5.8)
(19.9)

R2 = 0.578
D-W = 0.174

3. The Equity Risk Premium: What is it? Has it changed?

The changing bond yield spreads evident above suggests that there have been
changes in the factors that would affect perceived risk. It could reflect changes from the
supply side such as the level and volatility of corporate cash flow to meet interest
obligations. It could also reflect demand side factors such as diversification possibilities
of investors, or their degree of risk aversion. These same factors could also have an
impact on the risk of equity investments. Thus, changing yield spreads could also be
related to an ongoing topic of interest: changes in the equity risk premium.
The ERP is the return equity investors expect to earn above the rate of return on
government bonds. Recent research has lead to two primary conclusions: (1) realized
historic returns on the stock market likely overestimate the historic and current ERP, and
(2) implied, ERP estimates are below realized rates, and also may have fallen over

time. A decline in the ERP appears to be at odds with corporate yield spreads, which,
with the exception of the (Baa - Aaa) spread, do not appear to have fallen with time.
Measurement of the equity risk premium (ERP) using realized returns on the
stock market may seriously overestimate the ERP. Basic models of share valuation imply
that stock values equal the present value of expected future cash flows to shareholders.
As the expected growth rate in future cash flows rises or falls, so too will share values. If
the required return on equity rises or falls, share values will move in the opposite
direction. Thus, if surprises, on average, are positive regarding growth, and/or the
required rate of return is falling, stock prices will be higher than expected, as will realized
returns. Realized returns will therefore exceed the required return of investors. If this
has been the case, as Fama and French (2002) and others claim, ERP estimates based on
realized returns will not provide accurate estimates. This suggests using a method to
extract the required return of investors and the ERP that does not use historic realized
returns.6 For example, Brealy and Myers (2003) use an estimate based on historic
realized returns of eight percent, while Ross et al. (2002) suggest about nine percent.
Implied ERP estimates appearing in the literature have tended to be about half of these
values. For example, ranges of estimates include Claus and Thomas (2001) estimate 3
percent to 4 percent, Fama and French estimate 2.5 percent to 4.3 percent, and Lamdin
(2002) who suggests 3.3 percent to 4.7 percent.
The ERP measured in a forward-looking manner uses a model of stock value
(returns) based on the present value of future cash flows to investors. In a constant
growth model this implies that the expected dividend yield plus the expected capital gains

10

provides an estimate of the required return of investors. Subtracting the current

government bond rate provides an implied ERP estimate.
A detailed examination and application of such an approach to estimate the ERP
is beyond the scope here. However, a related and simple way to estimate the trend
(though not the level) of the forward-looking implied ERP can be illustrated. Levy
(1998) shows that the earnings-price ratio can be used as an estimate of the required
return of investors under some assumptions. The most of important assumption is that
the firms under consideration are experiencing normal growth. This means that the
long-run growth of their profits, and thus cash paid to shareholders, is in line with the
growth of the economy. For a diversified value-weighted portfolio (e.g., the S&P 500
index), this is not an unreasonable assumption. To the extent that some firms in the index
are experiencing, or are expected to experience above-normal growth, the E/P ratio will
underestimate the true required return. If this underestimate is roughly constant over
time, the trend in the E/P ratio minus the government bond rate should reflect the trend in
the ERP.
Annual data on the E/P ratio for the S&P 500, and the 10-year Treasury bond for
1970-2001 were examined.7 The results of the regression of the annual E/P ratio on a
time trend, and the E/P ratio minus the 10-year Treasury bond rate on a time trend
variable are shown below.
E/P = 10.692 - 0.2048*TIME
(-4.4)

R2 = 0.388
D-W = 0.442

(E/P - T) = 1.304 - 0.124*TIME

(-3.7)

R2 = 0.313
D-W = 0.674

11

The negative coefficient on the time trend variable in both cases implies a decline in the
ERP. For example, (E/P - T) is falling by 0.124*5 = 0.62 percent per year, a non-trivial
decline. The decline in the ERP is similar to the decline in the (Baa - Aaa) yield spread,
but opposite of the positive trend in the (Aaa - T) and (Baa - T) spreads. This presents a
conundrum. The declining ERP suggests a decline in the risk of investment in the equity
of the aggregate corporate sector. It is not illogical to expect that this decline in equity
risk would also cause a decline in (Aaa - T) and (Baa - T) spreads as the bonds are less
risky as well. One must be somewhat circumspect, however, in drawing conclusions
from time-series data such as these. If stock market valuations are in some sense
irrational, then ERP estimates such as these are not reliable. On a more positive note,
as will be shown, there is some consistency regarding movements in yield spreads and
the stock market valuations than is apparent so far.
A more complicated question to be addressed is the extent to which there is any
causal or predictive relationship between yield spread changes and changes in stock
market valuations. Basic stock market valuation models imply that value is positively
related to cash flows to investors (e.g., dividends), and negatively related to riskiness of
the cash flows (required returns of investors). Increases (decreases) in perceived risk
should widen (narrow) yield spreads measured against government bonds, and also widen
(narrow) yield spreads of differing quality of bonds if lower-quality bonds are more
sensitive to macroeconomic changes in expected cash flows. Increases (decreases) in
expected future cash flow should decrease (widen) yield spreads measured against
government bonds, and also decrease (widen) yield spreads of differing quality of bonds
if lower-quality bonds are more affected by economy wide changes in perceived risk.

12

The empirical question is whether this is borne out in the data. In particular, the question
to be addressed is whether changes in yield spreads precede changes in stock market
valuation, or changes in stock market valuation precede changes in bond risk premia, or
neither, or both?8
4. Causality Tests
Causality tests became popular in the empirical economics literature in the 1970s
and 1980s, and continue to be used to examine time-series data. Their implementation
will be briefly reviewed.9 The basic approach is as follows. Variable A is regressed on
its lagged values to see the extent to which lagged values can explain current values. If
an additional variable (B), is believed to cause A, lagged values of B are added to the
model to measure whether they add significant explanatory power. If so, B is said to
cause A. Similarly, one uses B as the dependent variable. B is regressed on its lagged
values, and then on its lagged values and lagged values of A to test for the significance of
adding lagged A values. In the case of two variables such as this, one can find: (1) A
causes B; (2) B causes A; (3) A causes B and B causes A; and (4) A does not cause B and
B does not cause A. Case (3) is likely to be spuriously caused by a third variable that is
influencing both X and Y.
Causality tests described above are used to examine the hypothesis that
movements in bond yield spreads and movements in the stock market are related. For
econometric reasons it is appropriate to use changes in the yield spreads, and changes in
stock market valuation. Unlike the levels of these variables, the changes are less likely to
have a trend and therefore are a stationary series. Using non-stationary variables can
lead to spurious correlations between the variables. So, the monthly changes in each of

13

the three yield spreads, and the monthly S&P 500 return are the variables used in the
analysis that follows.
The first set of models has the S&P return as the dependent variable. Separate
models use lagged values of each yield spread change as independent variables. The
choice of lag length is somewhat subjective. Three months of lags are used for each
variable in all models. This should allow sufficient time for the market to reflect any
changes given that interest rates and stock prices are presumed to quickly impound new
information. Also, as a practical matter, this keeps the results reported to a manageable
amount. Table 3 summarizes the results. The R-squared values for the models are shown,
as is the F-test of the significance of adding the lagged values of each yield spread
change. The lagged values of the S&P return have little power in explaining its current
value. The R-squared is essentially 0. Addition of the lagged values of yield spread
changes increases the R-squared by little. The F-test confirms this. One cannot reject the
hypothesis that yield spread changes do not cause changes in the S&P 500 at the one
percent level of significance. (The critical F-value for one percent significance for these
tests is 3.78.)

14

________________________________________________________________________
Table 3: Test of Whether Changes in Yield Spreads Cause Changes in the S&P 500 Index
(Monthly data: 2/70-5/03)

Independent variables
Lagged S&P return

R-squared

F-statistic

Dependent variable: Monthly S&P 500 return

0.001

Lagged S&P return and

Lagged (Aaa - T)

0.015

1.8

Lagged S&P return and

Lagged (Baa - T)

0.020

3.5

Lagged S&P return and

Lagged (Baa - Aaa)

0.017

2.1

________________________________________________________________________

Now, each of the yield spread changes is the dependent variable, with lagged S&P
500 returns added as independent variables. Table 4 reports these results. Lagged values
of each yield spread have a small amount of explanatory power with R-squared values
ranging from 0.040 to 0.097. What is more important is the finding in each case that
lagged values of the return on the S&P 500 add a significant amount of explanatory
power. The hypothesis that lagged S&P returns do not add explanatory power to the
models can be rejected at the one percent level in each case. That is, lagged values of the
S&P 500 return precede (cause) changes in the yield spreads. In each case, the
coefficients on the lagged S&P return values are negative. That is, an increase (decline)
in the S&P 500 leads to a narrowing (widening) of the yield spreads. This makes sense
because a reduction in perceived risk, or an increase in the expected future cash flow of

15

the corporate sector, would cause stock prices to rise. These should also act to reduce
yield spreads. Note however that should the (Aaa - T) and (Baa - T) spreads change by a
similar amount, the (Baa - Aaa) spread would be unchanged.
________________________________________________________________________
Table 4: Test of Whether Changes in the S&P 500 Index Cause Changes in Yield Spreads
(Monthly data: 2/70-5/03)

Independent variables

R-squared

F-statistic

Dependent variable: Monthly (Aaa - T)

0.040

Lagged (Aaa - T)
Lagged (Aaa - T) and
Lagged S&P 500 return

0.096

7.6

Dependent variable: Monthly (Baa - T)

0.097

Lagged (Baa - T)
Lagged (Baa - T) and
Lagged S&P 500 return

0.173

10.9

Dependent variable: Monthly (Baa - Aaa)

Independent variables:
Lagged (Baa - Aaa)
Lagged (Baa - Aaa) and
Lagged S&P 500 return

0.080
0.126

6.5

In the interest of space, all of the full equations are not show. However, it is
useful to examine at least of one of these in detail. Below the model with (Baa - T) as
the dependent variable is shown. This had the highest R-squared value, but is
representative of the other models. In addition to the joint significance of the lagged S&P

16

variables, note that the individual t-ratios on the lagged S&P coefficients are either
significant, or marginally so at standard levels.
Dependent variable: (Baa T)
Independent Variable

Coefficient

t-ratio

Constant
(Baa T) -1
(Baa T) -2
(Baa T) -3
S&P Return -1
S&P Return -2
S&P Return -3

2.270*E-02
0.240
-0.230
5.154E-02
-0.976
-0.401
-0.585

4.79
-4.52
1.06
-4.88
-1.94
-2.83

In spite of the significance of the addition of the lagged S&P 500 returns, the Rsquared values are low (ranging from 0.096 to 0.173). Well below one-third of the
variation in the yield spread changes is accounted for by the models. This can be
explained in two related ways. First, stock market movements and interest rate
movements, particularly over short periods, are difficult to predict. Thus, the R-squared
values reflect this. Also, because the dependent and independent variables are changes in
the variable, not levels of the variables, this will cause low R-squared values. This is
similar to what one would find by estimation of the basic macroeconomics time series
consumption function. Aggregate consumption regressed on aggregate national income
has an R-squared close to 1. Using the same data, but estimating the regression using the
changes in the variables rather than their levels yields a much lower R-squared value.
The results shown here complement some in related articles by Kwan (1996) and
Collin-Dufresne et al. (2001). Kwan (1996) examined weekly firm-level bond yields (not
spreads) changes and stock returns from 1986-1990. Lagged stock returns were found to

17

explain current bond yield changes, but lagged bond yield changes were not found to
explain current stock returns. Collin-Dufresne et al. (2001) examined monthly data from
1988 through 1997 on firm-level changes in bond yield spreads. They found them to be
negatively related to contemporaneous changes in treasury yields and the S&P index
returns. The one period lag of the S&P return was also negatively related to the change
in yield spreads in a significant way.
6. Conclusions and Prospective Issues
These results have a number of implications. The trend in corporate bond yield
spreads suggests that over the past three decades they exhibit differing trends. The (Aaa T) and (Baa - T) spreads have risen with time. This implies higher promised returns to
investors, and thus a higher cost of borrowing to corporations. The (Baa - Aaa) spread,
however, does not show the same trend, suggesting a decline in the relative risk of these
differing quality ratings. In the period 2001-2003 all yield spreads increased.
The equity risk premium seems to have decreased during this time, which is
counter to the movement in the (Aaa - T) and (Baa - T) yield spreads. This is not easily
reconciled, and warrants future examination. Looking at shorter-term data (monthly)
with causality tests, rather than long-term trends, a rise or fall in the stock market tends to
precede (predict) a change in yield spreads in the opposite direction. This should be of
interest to bond investors, investment bankers, and corporate financial managers. Bond
investors may be able to profit from being able to anticipate bond price (yield)
movements from stock market movements. Corporate financial managers and investment
bankers may also be able to better time bond issues from stock market movements.
Causality tests do not show that changes in yield spreads precede stock price movements.

18

Equity investors who seek to better time the market using information on movements in
yields spreads should not be able to do so.

19

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Claus, James, and Jacob Thomas. 2001. Equity Premia as Low as Three Percent?
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Collin-Dufresne, Pierre, Robert S. Goldstein, and J. Spencer Martin. 2001. The
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Hubbard (2003) provides a current view of related issues. Although written much earlier, issues raised by
Malkiel (1979) remain timely.
2
This is discussed in, for example, Van Horne (2001), Francis and Ibottson (2002), and Mishkin and Eakins
(2003).
3
The data were obtained from www.federalreserve.gov.
4
The S&P Index data were taken from the www.research.stlouisfed.org.
5
The Malkiel and Yu (1997) show that aggregate stock market volatility has not risen over time, but that of
individual stocks has risen.
6
See, for example, Siegel (1999), Cornell (1999), Jagannathan et al. (2000), Claus and Thomas (2001),
Fama and French (2002), and Lamdin (2002).
7
The data were taken from The Economic Report of the President, 2003, Tables B-73 and B-95.
8
That bond yield spreads may be related to stock returns is not new. Chen et al. (1986), in an early
empirical examination of the Arbitrage Pricing Theory, include a yield spread measure as one of the risk
factors. Their concern was with explaining cross-sectional return differences, not time-series causality.
9
Further descriptions are available in most econometrics texts, for example, Gujurati (1995).

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