The authors use data from the aggregate equity market and dividend futures to quantify how investors’ expectations about economic growth across horizons evolve in response to the coronavirus outbreak and subsequent policy responses. Dividend futures, which are claims to dividends on the aggregate stock market in a particular year, can be used to directly compute a lower bound on growth expectations across maturities or to estimate expected growth using a simple forecasting model. As of June 8, the authors’ forecast of annual growth in dividends is down 9% in the US and 14% in the EU, and their forecast of GDP growth is down by 2.0% in the US and 3.1% in the EU. As a word of caution, the authors emphasize that these estimates are based on a forecasting model estimated using historical data. In turbulent and unprecedented times, there is a risk that the historical relation between growth and asset prices breaks down, meaning these estimates come with uncertainty.
The lower bound on the change in expected dividends is -18% in the US and -25% in the EU on the 2-year horizon. The lower bound is model-free and completely forward looking. There are signs of catch-up growth from year 4 to year 10. News about economic relief programs on March 26 boosts the stock market and long-term growth but did little to increase short-term growth expectations. Expected dividend growth has improved since April 1 in both the US and the EU.
As of June 8, the expected return on the market has returned to the pre-crisis level. On June 8, the S&P 500 trades at $3232, which is $64 lower than the average price between January 1 and February 19. This drop can largely be explained by the first 7 years of dividends, as they are down by a total of $72. As such, the distant-future dividends, the dividends beyond year 7, must have approximately the same value as before the crisis. If expected long-run dividends are the same as before the crisis, expected returns on the long- run dividends must therefore also be the same as before the crisis. However, interest rates have dropped substantially, which means the expected return in excess of the interest rates is higher than before the crisis.