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Asset pricing puzzles in an OLG economy with generalized preference

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  • Amadeu DaSilva
  • Mira Farka

Abstract

We seek to explain a number of asset pricing anomalies – the equity premium puzzle, the risk‐free rate puzzle, and portfolio allocation puzzle – in a parsimonious overlapping generations (OLG) model with two key features: borrowing constraint and Epstein–Zin–Weil (1989) preference. The model goes a long way towards the resolution of these puzzles, and is able to simultaneously match asset pricing moments and individual portfolio decisions using reasonable values of parameters governing behavior. We find that the main driver of savings behavior, equity returns, and asset allocation is the relative difference between the two parameters: the level of relative risk aversion and the inverse of the elasticity of substitution.

Suggested Citation

  • Amadeu DaSilva & Mira Farka, 2018. "Asset pricing puzzles in an OLG economy with generalized preference," European Financial Management, European Financial Management Association, vol. 24(3), pages 331-361, June.
    • Handle: RePEc:bla:eufman:v:24:y:2018:i:3:p:331-361
    DOI: 10.1111/eufm.12133
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