Relationship between epected inflation and equity yields Literature Review分析和总结分析和总结.docxVIP

This paper examines the Fed model in order to evaluate relationship between expected inflation and equity yields by decomposing US equity and bond yields into different components by conducting the VAR-based analysis. We also use the investor’s subjective and objective cash flow expectation to investigate the whether the inflation illusion theory is a potentially explanation for the correlation between expected inflation and equity yields. 1. Literature Review The influence of the macroeconomy on the stock market is attracting many academics, investment professionals and even monetary policymakers, especially the correlation between equity yields and expected inflation. Because it helps investment professionals to quantify the degree of the stock used to hedging against inflation, when behavioral biases induced by inflation cause value distortion in the equity market, the well informed practitioners could take advantage of the mispricing to obtain benefit. Furthermore, spillover from the equity yields-inflation relationship has to be considered by policy maker, Campbell and Vuolteenaho (2004) indicate that undue fluctuation in equity prices will be induced if inflation uncertainty, this suggests inflation stabilization policies. And for academics, the variation of stock market influence real economy deeply, to research equity yields-inflation relationship and find the causes is crucial important. Therefore, this paper is motived to examine the relationship between equity yields and inflation and to investigate the whether the inflation illusion theory is a potentially explanation for the correlation between expected inflation and equity yields. Many studies have contributed to the knowledge of the relationship equity yields and inflation. A large part of those studies are related to the outstanding model of stock pricing, the Fed model, which postulates that equity yields are correlated to bond yields. Asness (2000, 2003) points out that the Fed model successfully d