Working Paper: NBER ID: w11211
Authors: Stefano Dellavigna; Joshua M. Pollet
Abstract: Do investors pay enough attention to long-term fundamentals? We consider the case of demographic information. Cohort size fluctuations produce forecastable demand changes for age-sensitive sectors, such as toys, bicycles, beer, life insurance, and nursing homes. These demand changes are predictable once a specific cohort is born. We use lagged consumption and demographic data to forecast future consumption demand growth induced by changes in age structure. We find that demand forecasts predict profitability by industry. Moreover, forecasted demand changes 5 to 10 years in the future predict annual industry returns. One additional percentage point of annualized demand growth due to demographics predicts a 5 to 10 percentage point increase in annual abnormal industry stock returns. However, forecasted demand changes over shorter horizons do not predict stock returns. The predictability results are more substantial for industries with higher barriers to entry and with more pronounced age patterns in consumption. A trading strategy exploiting demographic information earns an annualized risk-adjusted return of 5 to 7 percent. We present a model of underreaction to information about the distant future that is consistent with the findings.
Keywords: demographics; stock market; investor attention; predictability; behavioral finance
JEL Codes: G1; J1; D0
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| demographic information (J10) | forecasted demand changes (E47) |
| forecasted demand changes (E47) | profitability by industry (L89) |
| profitability by industry (L89) | annual abnormal industry stock returns (G17) |
| demographic information (J10) | annual abnormal industry stock returns (G17) |
| short-term demand forecasts (E47) | annual abnormal industry stock returns (G17) |
| demographic shifts (J11) | forecasted demand growth (F17) |