Kruttschnitt Family Chair in Financial Institutions
Finance Department, Haas School of Business
Martin Lettau is the Kruttschnitt Family Chair in Financial Institutions at the Haas School of Business, University of California, Berkeley. He is a Research Associate at the National Bureau of Economic Research (Cambridge, Massachusetts); and a Research Fellow at the Center for Economic Policy and Research (London, England). His empirical work lies at the intersection of asset pricing and macroeconomics, and includes investigations of stock market volatility, macroeconomic risk and the equity premium, currency returns and risk premia, stocks and crashes, and the nexus between consumption, wealth and expected returns.
Summary of recent papers:
In Capital Share Risk and Shareholder Heterogeneity in U.S. Stock Pricing (NBER Working Paper No. 20744, 2014), Martin Lettau, Sydney C. Ludvigson, and Sai Ma ask why do value and momentum strategies earn persistently large return premia yet are negatively correlated. They show that a quantitatively large fraction of the negative correlation is explained by strong opposite signed exposure of value and momentum portfolios to a single aggregate risk factor based on low frequency fluctuations in the capital share. Moreover, this negatively correlated component is priced. Models with capital share risk explain up to 85% of the variation in average returns on size-book/market portfolios and up to 95% of momentum returns and the pricing errors on both sets of portfolios are lower than those of the Fama-French three- and four-factor models, the intermediary SDF model of Adrian, Etula, and Muir (2014), and models based on low frequency exposure to aggregate consumption risk. None of the betas for these factors survive in a horse race where a long-horizon capital share beta is included. They show that opposite signed exposure of value and momentum to capital share risk coincides with opposite signed exposure to the income shares of stockholders in the top 10 versus bottom 90 percent of the stock wealth distribution. Thus, the portfolios are priced as if representative investors from different percentiles of the wealth distribution pursue different investment strategies.
In Origins of Stock Market Fluctuations (NBER Working Paper No. 19818, 2014), Martin Lettau with Daniel L. Greenwald and Sydney C. Ludvigson state that three mutually uncorrelated economic disturbances that they measure empirically explain 85% of the quarterly variation in real stock market wealth since 1952.They employ a model to interpret these disturbances in terms of three latent primitive shocks. In the short run, shocks that affect the willingness to bear risk independently of macroeconomic fundamentals explain most of the variation in the market. In the long run, the market is profoundly affected by shocks that reallocate the rewards of a given level of production between workers and shareholders. Productivity shocks play a small role in historical stock market fluctuations at all horizons.