Stock prices, output, and rational bubbles: evidence for the U.S. stock market

The present-discounted value model of stock price determination implies that, rational bubbles being absent, stock prices and difference-stationary fundamentals should be cointegrated. When testing for non-cointegration, researchers often measure fundamentals in terms of dividends or earnings. Recent evidence, however, suggests that output tracks variation over time in expected stock returns and may, thus, serve as a useful proxy of fundamentals. In contrast to this evidence, we found that stock prices and output are not cointegrated. Our findings imply that, for the sample period that we analyzed, the possibility of periodically collapsing rational bubbles in the U.S. stock market cannot be ruled out.