Risk Aversion and Skewness Preference: a comment
AbstractEmpirically, co-skewness of asset returns seems to explain a substantial part of the cross-sectional variation of mean return not explained by beta. Thisfinding is typically interpreted in terms of a risk averse representativeinvestor with a cubic utility function. This comment questions thisinterpretation. We show that the empirical tests fail to impose risk aversionand the implied utility function takes an inverse S-shape. Unfortunately, thefirst-order conditions are not sufficient to guarantee that the market portfoliois the global maximum for an inverse S-shaped utility function, and ourresults suggest that the market portfolio is more likely to represent theglobal minimum than the global maximum. In addition, if we impose riskaversion, then co-skewness has minimal explanatory power.
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Bibliographic InfoPaper provided by Erasmus Research Institute of Management (ERIM), ERIM is the joint research institute of the Rotterdam School of Management, Erasmus University and the Erasmus School of Economics (ESE) at Erasmus University Rotterdam in its series ERIM Report Series Research in Management with number ERS-2003-009-F&A.
Date of creation: 29 Apr 2003
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More information through EDIRC
asset pricing; representative investor; risk aversion; skewness preference; three-moment model;
Find related papers by JEL classification:
- C19 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods and Methodology: General - - - Other
- G3 - Financial Economics - - Corporate Finance and Governance
- M - Business Administration and Business Economics; Marketing; Accounting
- M41 - Business Administration and Business Economics; Marketing; Accounting - - Accounting - - - Accounting
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