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Consumption, Dividends, and the Cross Section of Equity Returns





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    • *Bansal is affiliated with the Fuqua School of Business, Duke University, Dittmar is affiliated with the University of Michigan Business School, and Lundblad is affiliated with the Kelley School of Business, Indiana University. Special thanks to Lars Hansen and John Heaton for extensive comments and discussion. We also thank Tim Bollerslev, Alon Brav, David Chapman, Jennifer Conrad, Magnus Dahlquist, Campbell Harvey, Pete Kyle, Martin Lettau, Rob Stambaugh (the editor), George Tauchen, Amir Yaron, Lu Zhang, an anonymous referee, and seminar participants at Duke University, Emory University, Federal Reserve Board of Governors, Michigan State University, University of California at San Diego, University of Miami, University of North Carolina, University of Notre Dame, University of Texas, the 2001 NBER Fall Asset Pricing Meeting, the 2002 Society for Economic Dynamics Meetings (New York, NY), the 2002 Utah Winter Finance Meeting, the 2002 University of Illinois Bear Market Conference, and the 2002 Western Finance Association Meetings (Park City, UT) for helpful comments. The usual disclaimer applies.


We show that aggregate consumption risks embodied in cash flows can account for the puzzling differences in risk premia across book-to-market, momentum, and size-sorted portfolios. The dynamics of aggregate consumption and cash flow growth rates, modeled as a vector autoregression, are used to measure the consumption beta of discounted cash flows. Differences in these cash flow betas account for more than 60% of the cross-sectional variation in risk premia. The market price for risk in cash flows is highly significant. We argue that cash flow risk is important for interpreting differences in risk compensation across assets.