Asset Pricing with Incomplete Information under Stable Shocks
AbstractWe study a consumption based asset pricing model with incomplete information and alpha-stable shocks. Incomplete information leads to a non-Gaussian filtering problem. Bayesian updating generates fluctuating confidence in the agents' estimate of the persistent component of the dividends’ growth rate. Similar results are obtained with alternate distributions exhibiting fat tails (Extreme Value distribution, Pearson Type IV distribution) while they are not with a thin-tail distribution (Binomial distribution). This has the potential to generate time variation in the volatility of model-implied returns, without relying on discrete shifts in the drift rate of dividend growth rates. A test of the model using US consumption data indicates strong support in the sense that the implied returns display significant volatility persistence of a magnitude comparable to that in the data.
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Bibliographic InfoPaper provided by Florida International University, Department of Economics in its series Working Papers with number 0514.
Length: 68 pages
Date of creation: Sep 2005
Date of revision:
asset pricing; incomplete information; time-varying volatility; fat tails; stable distributions;
Find related papers by JEL classification:
- G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
- G13 - Financial Economics - - General Financial Markets - - - Contingent Pricing; Futures Pricing
- E43 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Interest Rates: Determination, Term Structure, and Effects
This paper has been announced in the following NEP Reports:
- NEP-ALL-2005-09-17 (All new papers)
- NEP-CFN-2005-09-17 (Corporate Finance)
- NEP-FIN-2005-09-17 (Finance)
- NEP-FMK-2005-09-17 (Financial Markets)
- NEP-MAC-2005-09-17 (Macroeconomics)
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