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Abstract

In a model with housing collateral, a decrease in house prices reduces the collateral value of housing, increases household exposure to idiosyncratic risk, and increases the conditional market price of risk. This collateral mechanism can quantitatively replicate the conditional and the cross-sectional variation in risk premia on stocks for reasonable parameter values. The increase of the conditional equity premium and Sharpe ratio when collateral is scarce in the model matches the increase observed in US data. The model also generates a return spread of value firms over growth firms of the magnitude observed in the data, because the term structure of consumption strip risk premia is downward sloping.

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Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 10955.

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Date of creation: Dec 2004
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Handle: RePEc:nbr:nberwo:10955

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Find related papers by JEL classification:

• G0 - Financial Economics - - General

This paper has been announced in the following NEP Reports:

• NEP-ALL-2004-12-12 (All new papers)
• NEP-DGE-2004-12-12 (Dynamic General Equilibrium)
• NEP-FIN-2004-12-12 (Finance)
• NEP-FIN-2004-12-15 (Finance)
• NEP-IAS-2004-12-12 (Insurance Economics)
• NEP-URE-2004-12-12 (Urban & Real Estate Economics)

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Cited by:

1. Lewellen, Jonathan & Nagel, Stefan & Shanken, Jay, 2010. "A skeptical appraisal of asset pricing tests," Journal of Financial Economics, Elsevier, vol. 96(2), pages 175-194, May.
   
   • Jonathan Lewellen & Stefan Nagel & Jay Shanken, 2006. "A Skeptical Appraisal of Asset-Pricing Tests," NBER Working Papers 12360, National Bureau of Economic Research, Inc.
2. Sven Rady & François Ortalo-Magné, 2001. "Housing Market Dynamics: On the Contribution of Income Shocks and Credit Constraints," CESifo Working Paper Series 470, CESifo Group Munich.
   
   • François Ortalo-Magné & Sven Rady, 2002. "Housing Market Dynamics: On the Contribution of Income Shocks and Credit Constraints," Wisconsin-Madison CULER working papers 02-01, University of Wisconsin Center for Urban Land Economic Research.
   • Ortalo-Magné, François & Rady, Sven, 2001. "Housing Market Dynamics: On the Contribution of Income Shocks and Credit Constraints," CEPR Discussion Papers 3015, C.E.P.R. Discussion Papers.
   • Ortalo-Magné, François & Rady, Sven, 2005. "Housing Market Dynamics: On the Contribution of Income Shocks and Credit Constraint," Discussion Paper Series of SFB/TR 15 Governance and the Efficiency of Economic Systems 50, Free University of Berlin, Humboldt University of Berlin, University of Bonn, University of Mannheim, University of Munich.
   • Sven Rady, 2001. "Housing Market Dynamics: on the Contribution of Income Shocks and Credit Constraints," FMG Discussion Papers dp375, Financial Markets Group.
3. Yoshida, Jiro, 2007. "Technology Shocks and Asset Price Dynamics: The Role of Housing in General Equilibrium," MPRA Paper 6271, University Library of Munich, Germany.
   
   • Jiro Yoshida, 2008. "Technology Shocks and Asset Price Dynamics:The Role of Housing in General Equilibrium," CARF F-Series CARF-F-119, Center for Advanced Research in Finance, Faculty of Economics, The University of Tokyo.
4. Li, Haitao & Xu, Yuewu & Zhang, Xiaoyan, 2010. "Evaluating asset pricing models using the second Hansen-Jagannathan distance," Journal of Financial Economics, Elsevier, vol. 97(2), pages 279-301, August.
5. Lewellen, Jonathan, 2010. "Accounting anomalies and fundamental analysis: An alternative view," Journal of Accounting and Economics, Elsevier, vol. 50(2-3), pages 455-466, December.
6. Morris A. Davis & Robert F. Martin, 2005. "Housing, house prices, and the equity premium puzzle," Finance and Economics Discussion Series 2005-13, Board of Governors of the Federal Reserve System (U.S.).
7. Dirk Krueger & Fabrizio Perri, 2005. "The Research Agenda: Dirk Krueger and Fabrizio Perri on Risk Sharing across Households, Generations and Countries," EconomicDynamics Newsletter, Review of Economic Dynamics, vol. 6(2), April.

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