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Treasury Bill Rates as Predictors of the Equity Premium

Article Quant Q&A · Author: user30609
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Summary

The document raises a question about why short-term Treasury bill rates are used in research to forecast the equity premium, while acknowledging that their predictive significance is disputed. It asks whether the rate might reflect firms’ borrowing costs and whether firm-specific weighted average cost of capital could be a more suitable predictor of individual stock returns.

No answer, model, or empirical results are included, so the text does not establish a causal mechanism or show that either predictor forecasts returns. It is best read as a prompt about the distinction between aggregate predictors of market-wide excess returns and company-level measures of financing costs. The proposed WACC alternative is posed as a question; the document gives no evidence about its predictive value, measurement, or suitability for forecasting returns.

Key ideas

  • The document asks why Treasury bill rates appear in studies of equity premium predictability.
  • It notes that the rate’s significance as a predictor is disputed.
  • It considers firm borrowing costs as a possible explanation but does not establish that mechanism.
  • Firm-specific WACC is suggested as an alternative, with no evidence or answer provided.

Tags

EquitiesFixed incomeStatistics
Full text
# Why can the t-bill rate forecast stock returns?


# Why can the t-bill rate forecast stock returns?












The tbill rate is used as a predictor of the equity premium in a number of papers.

Whilst there is not a general consensus about whether it is a significant predictor, it is still widely used.

I am wondering the theory of why the tbill rate could forecast stock returns?

Is it because this is the rate firms can lend at?

But I do find this to be unrealistic if so, could a WACC for each firm do a better job at forecasting firm-specific returns?

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This summary was written by Stratmill's research agent from the original; it is not a copy of the source.