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Stock and Bond Pricing in an Affine Economy

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Author Info
Geert Bekaert
Steven R. Grenadier

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Abstract

This article provides a stochastic valuation framework for bond and stock returns that builds on three different pricing traditions: affine models of the term structure, present-value pricing of equities, and consumption-based asset pricing. Our model provides a more general application of the affine framework in that both bonds and equities are priced in a consistent fashion. This pricing consistency implies that term structure variables help price stocks while stock price fundamentals help price the term structure. We illustrate our model by considering three examples that are similar in spirit to well-known pricing models that fall within our general framework: a Mehra and Prescott (1985) economy, a present value model similar to Campbell and Shiller (1988b), and a model with stochastic risk aversion similar to Campbell and Cochrane (1998). The empirical performance of our models is explored, with a particular emphasis on return predictability.

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Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 7346.

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Date of creation: Sep 1999
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Handle: RePEc:nbr:nberwo:7346

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G12 - Financial Economics - - General Financial Markets - - - Asset Pricing

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References listed on IDEAS
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.:
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  3. Qiang Dai & Kenneth J. Singleton, 1997. "Specification Analysis of Affine Term Structure Models," NBER Working Papers 6128, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
  4. Geert Bekaert, 1996. "The Time Variation of Risk and Return in Foreign Exchange Markets: A General Equilibrium Perspective," NBER Working Papers 4818, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
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  5. Richard, Scott F., 1978. "An arbitrage model of the term structure of interest rates," Journal of Financial Economics, Elsevier, vol. 6(1), pages 33-57, March. [Downloadable!] (restricted)
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  7. Vasicek, Oldrich, 1977. "An equilibrium characterization of the term structure," Journal of Financial Economics, Elsevier, vol. 5(2), pages 177-188, November. [Downloadable!] (restricted)
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  10. Abel, A.B., 1990. "Asset Prices Under Habit Formation And Catching Up With The Joneses," Weiss Center Working Papers 1-90, Wharton School - Weiss Center for International Financial Research.
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  12. Campbell, John Y & Shiller, Robert J, 1988. " Stock Prices, Earnings, and Expected Dividends," Journal of Finance, American Finance Association, vol. 43(3), pages 661-76, July. [Downloadable!] (restricted)
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  13. Bessembinder, Hendrik & Chan, Kalok, 1992. "Time-varying risk premia and forecastable returns in futures markets," Journal of Financial Economics, Elsevier, vol. 32(2), pages 169-193, October. [Downloadable!] (restricted)
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  15. John Y. Campbell, Robert J. Shiller, 1988. "The Dividend-Price Ratio and Expectations of Future Dividends and Discount Factors," Review of Financial Studies, Oxford University Press for Society for Financial Studies, vol. 1(3), pages 195-228. [Downloadable!] (restricted)
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  16. Lucas, Robert E, Jr, 1978. "Asset Prices in an Exchange Economy," Econometrica, Econometric Society, vol. 46(6), pages 1429-45, November. [Downloadable!] (restricted)
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  23. Campbell, John Y, 1993. "Intertemporal Asset Pricing without Consumption Data," American Economic Review, American Economic Association, vol. 83(3), pages 487-512, June. [Downloadable!] (restricted)
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  26. Kleidon, Allan W, 1986. "Variance Bounds Tests and Stock Price Valuation Models," Journal of Political Economy, University of Chicago Press, vol. 94(5), pages 953-1001, October. [Downloadable!] (restricted)
  27. Bekaert, Geert & Hodrick, Robert J. & Marshall, David A., 2001. "Peso problem explanations for term structure anomalies," Journal of Monetary Economics, Elsevier, vol. 48(2), pages 241-270, October. [Downloadable!] (restricted)
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  28. Kreps, David M & Porteus, Evan L, 1978. "Temporal Resolution of Uncertainty and Dynamic Choice Theory," Econometrica, Econometric Society, vol. 46(1), pages 185-200, January. [Downloadable!] (restricted)
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  33. Abel, Andrew B., 1988. "Stock prices under time-varying dividend risk : An exact solution in an infinite-horizon general equilibrium model," Journal of Monetary Economics, Elsevier, vol. 22(3), pages 375-393. [Downloadable!] (restricted)
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  34. Abel, Andrew B., 1999. "Risk premia and term premia in general equilibrium," Journal of Monetary Economics, Elsevier, vol. 43(1), pages 3-33, February. [Downloadable!] (restricted)
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  36. Philippe Weil, 1989. "The Equity Premium Puzzle and the Riskfree Rate Puzzle," NBER Working Papers 2829, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
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  37. Ho, Thomas S Y & Lee, Sang-bin, 1986. " Term Structure Movements and Pricing Interest Rate Contingent Claims," Journal of Finance, American Finance Association, vol. 41(5), pages 1011-29, December. [Downloadable!] (restricted)
Full references

Cited by:
(explanations, 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.)

  1. René Garcia & Richard Luger, 2005. "The Canadian Macroeconomy and the Yield Curve: An Equilibrium-Based Approach," Working Papers 05-36, Bank of Canada. [Downloadable!]
  2. Kenneth W. Clements & Renee Fry, 2006. "Commodity Currencies And Currency Commodities," CAMA Working Papers 2006-19, Australian National University, Centre for Applied Macroeconomic Analysis. [Downloadable!]
    Other versions:
  3. Michael Brennan & Ashley Wang & Yihong Xia, 2003. "Estimation and Test of a Simple Model of Intertemporal Capital Asset Pricing," University of California at Los Angeles, Anderson Graduate School of Management 1011, Anderson Graduate School of Management, UCLA. [Downloadable!]
  4. Geert Bekaert & Eric Engstrom & Yuhang Xing, 2006. "Risk, Uncertainty and Asset Prices," NBER Working Papers 12248, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
    Other versions:
  5. Stefano d'Addona & Axel H. Kind, 2005. "International Stock-Bond Correlations in a Simple Affine Asset Pricing Model," Finance 0502018, EconWPA. [Downloadable!]
    Other versions:
  6. A. Berkelaar & R. Kouwenberg, 2000. "Optimal portfolio choice under loss aversion," Econometric Institute Report 187, Erasmus University Rotterdam, Econometric Institute. [Downloadable!]
    Other versions:
  7. Qiang Dai & Kenneth J. Singleton & Wei Yang, 2004. "Regime shifts in a dynamic term structure model of U.S. Treasury bond yields," Proceedings, Federal Reserve Bank of San Francisco, issue Mar. [Downloadable!]
  8. Hanno Lustig & Stijn Van Nieuwerburgh & Adrien Verdelhan, 2008. "The Wealth-Consumption Ratio," NBER Working Papers 13896, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
  9. Peter N Smith & Michael R Wickens, . "Asset Pricing with Observable Stochastic Discount Factors," Discussion Papers 02/03, Department of Economics, University of York. [Downloadable!]
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  10. Michael W. Brandt & Qiang Kang, 2002. "On the Relationship Between the Conditional Mean and Volatility of Stock Returns: A Latent VAR Approach," NBER Working Papers 9056, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
  11. P N Smith & S Sorensen & M R Wickens, . "Macroeconomic Sources of Equity Risk," Discussion Papers 03/13, Department of Economics, University of York. [Downloadable!]
    Other versions:
  12. Francis Longstaff & Monika Piazzesi, 2003. "Corporate Earnings and the Equity Premium," NBER Working Papers 10054, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
    Other versions:
  13. Andrew Ang & Jun Liu, 2003. "How to Discount Cashflows with Time-Varying Expected Returns," NBER Working Papers 10042, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
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