We employ bivariate and multivariate nonlinear causality tests to document causality
from equity return dispersion to stock market volatility and excess returns, even after controlling
for the state of the economy. Expansionary (contractionary) market states are associated with a low
(high) level of equity return dispersion, indicating asymmetries in the relationship between return
dispersion and economic conditions. Our findings indicate that both return dispersion and business
conditions are valid joint forecasters of stock market volatility and excess returns and that return
dispersion possesses incremental information regarding future stock return dynamics beyond that
which can be explained by the state of the economy.