Dynamic Asset Pricing With Non-Redundant Forwards
AbstractWe consider an incomplete but frictionless financial market in which non-redundant forward contracts contribute to span the uncertainty present in the economy. When such forward contracts are available for trade, some standard results of portfolio and dynamic asset pricing theory must be amended. When the investment opportunity set is driven by K state variables, a (K+4)-mutual fund separation theorem is obtained in lieu of Merton’s classic (K+2)-fund separation. The two additional funds are fully characterized. One fund is a portfolio containing forward contracts only, and the other fund is a portfolio of cash assets and forward contracts that hedges the interest rate risk brought about by the optimal portfolio strategy itself. The latter risk is due to the fact that, when a forward contract is involved, incurred profits or losses that accrue to the investor’s wealth at each instant are locked-in in the forward position up to the contract maturity. Thus discounting these gains or losses back at the current date gives rise to an interest rate risk. A second important result is that the mean-variance efficiency of the market portfolio of cash assets is neither a necessary nor a sufficient condition for the linear relationship between expected return and beta to hold. Finally, the pricing equation for a forward contract is shown to contain an extra term relative to that for a cash asset. We name this term a strategy risk premium. It compensates the investor for the (systematic) risk that stems from his very portfolio strategy
Download InfoIf you experience problems downloading a file, check if you have the proper application to view it first. In case of further problems read the IDEAS help page. Note that these files are not on the IDEAS site. Please be patient as the files may be large.
Bibliographic InfoPaper provided by Bar-Ilan University, Department of Economics in its series Working Papers with number 2001-10.
Date of creation: May 2001
Date of revision:
Contact details of provider:
Postal: Faculty of Social Sciences, Bar Ilan University 52900 Ramat-Gan
Phone: Phone: +972-3-5318345
Web page: http://www.biu.ac.il/soc/ec
More information through EDIRC
Other versions of this item:
- Lioui, Abraham & Poncet, Patrice, 2003. "Dynamic asset pricing with non-redundant forwards," Journal of Economic Dynamics and Control, Elsevier, Elsevier, vol. 27(7), pages 1163-1180, May.
- D52 - Microeconomics - - General Equilibrium and Disequilibrium - - - Incomplete Markets
- E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy
- G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions
- G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
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.:
- SÃ¼leyman Basak, .
"On the Fluctuations in Consumption and Market Returns in the Presence of Labor and Human Capital: An Equilibrium Analysis,"
Rodney L. White Center for Financial Research Working Papers, Wharton School Rodney L. White Center for Financial Research
10-98, Wharton School Rodney L. White Center for Financial Research.
- Basak, Suleyman, 1999. "On the fluctuations in consumption and market returns in the presence of labor and human capital: An equilibrium analysis," Journal of Economic Dynamics and Control, Elsevier, Elsevier, vol. 23(7), pages 1029-1064, June.
- Richard, Scott F. & Sundaresan, M., 1981. "A continuous time equilibrium model of forward prices and futures prices in a multigood economy," Journal of Financial Economics, Elsevier, Elsevier, vol. 9(4), pages 347-371, December.
- Brian R. Horrigan, 1987. "The CPI futures market: the inflation hedge that won't grow," Business Review, Federal Reserve Bank of Philadelphia, Federal Reserve Bank of Philadelphia, issue May, pages 3-14.
- R. C. Merton, 1970.
"Optimum Consumption and Portfolio Rules in a Continuous-time Model,"
58, Massachusetts Institute of Technology (MIT), Department of Economics.
- Merton, Robert C., 1971. "Optimum consumption and portfolio rules in a continuous-time model," Journal of Economic Theory, Elsevier, Elsevier, vol. 3(4), pages 373-413, December.
- Merton, Robert C, 1973. "An Intertemporal Capital Asset Pricing Model," Econometrica, Econometric Society, Econometric Society, vol. 41(5), pages 867-87, September.
- Cowen, Tyler, 1997. "Should Central Banks Target CPI Futures?," Journal of Money, Credit and Banking, Blackwell Publishing, Blackwell Publishing, vol. 29(3), pages 275-85, August.
- Fama, Eugene F., 1996. "Multifactor Portfolio Efficiency and Multifactor Asset Pricing," Journal of Financial and Quantitative Analysis, Cambridge University Press, Cambridge University Press, vol. 31(04), pages 441-465, December.
- Sumner, Scott, 1995. "The Impact of Futures Price Targeting on the Precision and Credibility of Monetary Policy," Journal of Money, Credit and Banking, Blackwell Publishing, Blackwell Publishing, vol. 27(1), pages 89-106, February.
- Harrison, J. Michael & Kreps, David M., 1979. "Martingales and arbitrage in multiperiod securities markets," Journal of Economic Theory, Elsevier, Elsevier, vol. 20(3), pages 381-408, June.
- Breeden, Douglas T., 1984. "Futures markets and commodity options: Hedging and optimality in incomplete markets," Journal of Economic Theory, Elsevier, Elsevier, vol. 32(2), pages 275-300, April.
- Breeden, Douglas T., 1979. "An intertemporal asset pricing model with stochastic consumption and investment opportunities," Journal of Financial Economics, Elsevier, Elsevier, vol. 7(3), pages 265-296, September.
- Stefano Athanasoulis & Robert Shiller & Eric van Wincoop, 1999. "Macro markets and financial security," Economic Policy Review, Federal Reserve Bank of New York, Federal Reserve Bank of New York, issue Apr, pages 21-39.
- Dowd, Kevin, 1994. "A Proposal to End Inflation," Economic Journal, Royal Economic Society, Royal Economic Society, vol. 104(425), pages 828-40, July.
- Rubinstein, Mark, 1976. "The Strong Case for the Generalized Logarithmic Utility Model as the Premier Model of Financial Markets," Journal of Finance, American Finance Association, American Finance Association, vol. 31(2), pages 551-71, May.
- Ohashi, Kazuhiko, 1997. "Optimal Futures Innovation in a Dynamic Economy: The Discrete-Time Case," Journal of Economic Theory, Elsevier, Elsevier, vol. 74(2), pages 448-465, June.
- Cox, John C & Ingersoll, Jonathan E, Jr & Ross, Stephen A, 1985. "An Intertemporal General Equilibrium Model of Asset Prices," Econometrica, Econometric Society, Econometric Society, vol. 53(2), pages 363-84, March.
- Ohashi Kazuhiko, 1995. "Endogenous Determination of the Degree of Market-Incompleteness in Futures Innovation," Journal of Economic Theory, Elsevier, Elsevier, vol. 65(1), pages 198-217, February.
- He, Hua & Pages, Henri F, 1993. "Labor Income, Borrowing Constraints, and Equilibrium Asset Prices," Economic Theory, Springer, Springer, vol. 3(4), pages 663-96, October.
- Abraham Lioui & Patrice Poncet, 2000. "The Minimum Variance Hedge Ratio Under Stochastic Interest Rates," Management Science, INFORMS, INFORMS, vol. 46(5), pages 658-668, May.
- Sumner, Scott, 1997. "Can Monetary Stabilization Policy Be Improved by CPI Futures Targeting? Reply," Journal of Money, Credit and Banking, Blackwell Publishing, Blackwell Publishing, vol. 29(4), pages 542-45, November.
- Cox, John C. & Ingersoll, Jonathan Jr. & Ross, Stephen A., 1981. "The relation between forward prices and futures prices," Journal of Financial Economics, Elsevier, Elsevier, vol. 9(4), pages 321-346, December.
- Katarzyna Romaniuk, 2007. "The optimal asset allocation of the main types of pension funds: a unified framework," The Geneva Papers on Risk and Insurance Theory, Springer, Springer, vol. 32(2), pages 113-128, December.
- Romaniuk, Katarzyna & Vranceanu, Radu, 2008. "Asset Prices and Assymetries in the Fed's Interest Rate Rule : a Financial Approach," ESSEC Working Papers, ESSEC Research Center, ESSEC Business School DR 08006, ESSEC Research Center, ESSEC Business School.
For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Department of Economics).
If references are entirely missing, you can add them using this form.