What Drives Stock Prices along Business Cycles?

This paper applies a Bayesian break method to studying the empirical time-varying relations between stock price ratios and subjective expectations across the market and 30 industry portfolios monthly from 1976 to 2020. Cash flow expectations unconditionally explain 80% of price variations since 2000 but their role is concentrated during recessions, especially among the hardest-hit industries such as Telecommunications during Tech Bubble, Financials during Great Recession, and Healthcare during COVID-19. Concurrently, discount rates explain the remaining 20% but their portion rises above 50% during the expansionary 2010s. Further tests show that cash flow expectations matter more under financial uncertainty. Inflation expectations, while accounting for 60% of price fluctuations before 2000, play a negligible role thereafter