Present-value logic says that aggregate stock prices are driven by discount-rate and cash-flow expectations. Dividends and net repurchases are both cash flows between the firm and household sectors. Aggregate dividend-price ratios do not forecast dividend growth, but do robustly forecast future buybacks and issuance. Long-run variance decompositions say that discount-rate and cash-flow expectations contribute equally to aggregate dividend-price-ratio variation.

Stock valuation ratios contain expectations of returns, yet, their performance in predicting returns has been rather dismal. This is because of an omitted variable problem: valuation ratios also contain expectations of cash flow growth. Time-variation in cash flow volatility and a structural shift toward repurchases have magnified this omitted variable problem. We show theoretically and empirically that scaling prices by forward measures of cash flows can overcome this problem yielding optimal return predictors. We construct a new measure of the forward price-to-earnings ratio for the S&P index based on earnings forecasts using machine learning techniques. The out-of-sample explanatory power for predicting one-year aggregate returns with our forward price-to-earnings ratio ranges from 7% to 11%, thereby beating all other predictors and helping to resolve the out-of-sample predictability debate (Goyal and Welch, 2008).

We argue that State of the Union (SOTU) addresses by the U.S. President function as announcements about broad government policies related to upcoming legislative activity of the administration. Unlike traditional macroeconomic and monetary policy announcements, SOTU addresses go back to the 1930s, which allows to expand the sample and context for the announcement effects for financial markets. We find that stock market returns on SOTU days are about ten times larger than on other days, are less volatile, and show strong pre-announcement drift prior to the address. SOTU returns increase in adverse economic, political and high volatility times, more so than on other announcement days. The overall evidence supports the risk premium/uncertainty resolution channel for announcement effects.