A Preference Regime Model of Bull and Bear Markets
AbstractThis paper develops a consumption-based asset pricing model in which attitudes towards risk are contingent upon the state of the world. For a low (high) level of consumption relative to a subjective metric, counter-cyclical (pro-cyclical) risk aversion implies that consumption shocks generate larger fluctuations in marginal utility, against which the agent will hedge in choosing his optimal portfolio. Asset prices are studied using two-state Markov preference regimes where bull and bear markets reflect alternating periods of low and high risk aversion. Joint estimation of bond and stock prices highlights moderate and infrequent movements in risk aversion, and a marked improvement on the model's ability to capture the cyclical nature of observed asset prices. RÃ©sumÃ©: Ce papier dÃ©veloppe un modÃ¨le d'agent reprÃ©sentatif de valorisation des actifs dans lequel les prÃ©fÃ©rences sont contingentes Ã l'Ã©tat du monde. Lorsque la consommation est basse (Ã©levÃ©e) par rapport Ã un niveau subjectif, une aversion contra- (pro-) cyclique implique que des chocs Ã la consommation se traduisent par des fluctuations accentuÃ©es de l'utilitÃ© marginale que l'agent dÃ©sirera lisser lors de son choix du portefeuille optimal. Les prix des actifs sont Ã©tudiÃ©s dans le cadre d'un modÃ¨le markovien Ã deux Ã©tats oÃ¹ les marchÃ©s haussiers ou baissiers reflÃ¨tent des pÃ©riodes alternatives de basse et de haute aversion pour le risque. L'estimation conjointe des prix des bons et des actions mettent en Ã©vidence des mouvements modÃ©rÃ©s et peu frÃ©quents dans l'aversion au risque ainsi qu'une amÃ©lioration nette du modÃ¨le en ce qui a trait aux mouvements cycliques des prix.
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Bibliographic InfoArticle provided by American Economic Association in its journal American Economic Review.
Volume (Year): 90 (2000)
Issue (Month): 4 (September)
Other versions of this item:
- Gordon, Stephen & St-Amour, Pascal, 1999. "A Preference Regime Model of Bull and Bear Markets," Cahiers de recherche 9906, Université Laval - Département d'économique.
- G12 - Financial Economics - - General Financial Markets - - - Asset Pricing
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
- Andrew B. Abel, 1992.
"Exact Solutions for Expected Rates of Return Under Markov Regime Switching: Implications for the Equity Premium Puzzle,"
NBER Working Papers
4110, National Bureau of Economic Research, Inc.
- Abel, Andrew B, 1994. "Exact Solutions for Expected Rates of Return under Markov Regime Switching: Implications for the Equity Premium Puzzle," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 26(3), pages 345-61, August.
- Andrew B. Abel, . "Exact Solutions for Expected Rates of Return Under Markov Regime Switching: Implications for the Equity Premium Puzzle," Rodney L. White Center for Financial Research Working Papers 9-92, Wharton School Rodney L. White Center for Financial Research.
- Andrew B. Abel, . "Exact Solutions for Expected Rates of Return Under Markov Regime Switching: Implications for the Equity Premium Puzzle," Rodney L. White Center for Financial Research Working Papers 09-92, Wharton School Rodney L. White Center for Financial Research.
- John Y. Campbell, 1996.
"Consumption and the Stock Market: Interpreting International Experience,"
Harvard Institute of Economic Research Working Papers
1763, Harvard - Institute of Economic Research.
- John Y. Campbell, 1996. "Consumption and the Stock Market: Interpreting International Experience," NBER Working Papers 5610, National Bureau of Economic Research, Inc.
- Gurdip S. Bakshi & Zhiwu Chen, 1996. "The Spirit of Capitalism and Stock-Market Prices," CEMA Working Papers 511, China Economics and Management Academy, Central University of Finance and Economics.
- Albert, James H & Chib, Siddhartha, 1993. "Bayes Inference via Gibbs Sampling of Autoregressive Time Series Subject to Markov Mean and Variance Shifts," Journal of Business & Economic Statistics, American Statistical Association, vol. 11(1), pages 1-15, January.
- Bakshi, Gurdip S & Chen, Zhiwu, 1996. "The Spirit of Capitalism and Stock-Market Prices," American Economic Review, American Economic Association, vol. 86(1), pages 133-57, March.
Blog mentionsAs found by EconAcademics.org, the blog aggregator for Economics research:
- Welfare costs of the business cycle and the equity premium
by Stephen in Worthwhile Canadian Initiative on 2006-12-15 19:09:36
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