Do Stock Prices Move Too Much to Be Justified by Changes in Cash Flows? New Evidence from Parallel Asset Markets

Abstract

We take advantage of two parallel markets for a set of cash flows to show that better cash flow measurement improves the performance of a dividend discount model. Unlike previous literature, we use out-of-sample estimation. We construct a natural laboratory, by using a unique dataset of commercial real estate and augmenting the dividend information for REITs with cash flow information from this parallel market. The results improve dramatically when information from direct property cash flows is added. These findings suggest that the performance of dividend pricing models improves greatly with better measurement of cash flows, and thus contribute to the resolution of the excess volatility puzzle.