IDEAS home Printed from https://ideas.repec.org/
MyIDEAS: Login to save this article or follow this journal

Limited Stock Market Participation and Asset Prices in a Dynamic Economy

  • Guo, Hui
Registered author(s):

This paper presents a consumption-based model that explains the equity premium puzzle through two channels. First, because of borrowing constraints, the shareholder cannot completely diversify his income risk and requires a sizable risk premium on stocks. Second, because of limited stock market participation, the precautionary saving demand lowers the risk-free rate but not stock return and generates a substantial liquidity premium. This model also replicates many other salient features of the data, including the first two moments of the risk-free rate, excess stock volatility, stock return predictability, and the unstable relation between stock volatility and the dividend yield.

If 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.

File URL: http://journals.cambridge.org/abstract_S0022109000004002
File Function: link to article abstract page
Download Restriction: no

Article provided by Cambridge University Press in its journal Journal of Financial and Quantitative Analysis.

Volume (Year): 39 (2004)
Issue (Month): 03 (September)
Pages: 495-516

as
in new window

Handle: RePEc:cup:jfinqa:v:39:y:2004:i:03:p:495-516_00
Contact details of provider: Postal: Cambridge University Press, UPH, Shaftesbury Road, Cambridge CB2 8BS UK
Web page: http://journals.cambridge.org/jid_JFQ
Email:

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.:

as in new window
  1. Tauchen, George & Hussey, Robert, 1991. "Quadrature-Based Methods for Obtaining Approximate Solutions to Nonlinear Asset Pricing Models," Econometrica, Econometric Society, vol. 59(2), pages 371-96, March.
  2. Heaton, John & Lucas, Deborah J, 1996. "Evaluating the Effects of Incomplete Markets on Risk Sharing and Asset Pricing," Journal of Political Economy, University of Chicago Press, vol. 104(3), pages 443-87, June.
  3. George M. Constantinides & John B. Donaldson & Rajnish Mehra, . "Junior Can't borrow: A New Perspective on the Equity Premium Puzzle."," CRSP working papers 457, Center for Research in Security Prices, Graduate School of Business, University of Chicago.
  4. Constantinides,George & Duffie,Darrel, 1992. "Asset pricing with heterogeneous consumers," Discussion Paper Serie A 381, University of Bonn, Germany.
  5. Shiller, Robert J, 1981. "Do Stock Prices Move Too Much to be Justified by Subsequent Changes in Dividends?," American Economic Review, American Economic Association, vol. 71(3), pages 421-36, June.
  6. Storesletten, Kjetil & Telmer, Chris & Yaron, Amir, 2001. "Asset Pricing with Idiosyncratic Risk and Overlapping Generations," CEPR Discussion Papers 3065, C.E.P.R. Discussion Papers.
  7. Philippe Weil, 1989. "The Equity Premium Puzzle and the Riskfree Rate Puzzle," NBER Working Papers 2829, National Bureau of Economic Research, Inc.
  8. Campbell, John Y., 1987. "Stock returns and the term structure," Journal of Financial Economics, Elsevier, vol. 18(2), pages 373-399, June.
  9. Robert J. Shiller & John Y. Campbell, 1986. "The Dividend-Price Ratio and Expectations of Future Dividends and Discount Factors," Cowles Foundation Discussion Papers 812, Cowles Foundation for Research in Economics, Yale University.
  10. Allen, F. & Gale, D., 1991. "Limited Market Participation and Volatility of Asset Prices," Weiss Center Working Papers 2-92, Wharton School - Weiss Center for International Financial Research.
  11. Mehra, Rajnish & Prescott, Edward C., 1985. "The equity premium: A puzzle," Journal of Monetary Economics, Elsevier, vol. 15(2), pages 145-161, March.
  12. Fama, Eugene F & French, Kenneth R, 1988. "Permanent and Temporary Components of Stock Prices," Journal of Political Economy, University of Chicago Press, vol. 96(2), pages 246-73, April.
  13. John T. Scruggs, 1998. "Resolving the Puzzling Intertemporal Relation between the Market Risk Premium and Conditional Market Variance: A Two-Factor Approach," Journal of Finance, American Finance Association, vol. 53(2), pages 575-603, 04.
  14. N. Gregory Mankiw, 1986. "The Equity Premium and the Concentration of Aggregate Shocks," NBER Working Papers 1788, National Bureau of Economic Research, Inc.
  15. Hui Guo, 2002. "Understanding the risk-return tradeoff in the stock market," Working Papers 2002-001, Federal Reserve Bank of St. Louis.
  16. Greenwood, J. & Jovanovic, B., 1999. "The IT Revolution and the Stock Market," Working Papers 99-02, C.V. Starr Center for Applied Economics, New York University.
  17. French, Kenneth R. & Schwert, G. William & Stambaugh, Robert F., 1987. "Expected stock returns and volatility," Journal of Financial Economics, Elsevier, vol. 19(1), pages 3-29, September.
  18. Merton, Robert C, 1973. "An Intertemporal Capital Asset Pricing Model," Econometrica, Econometric Society, vol. 41(5), pages 867-87, September.
  19. Fama, Eugene F. & French, Kenneth R., 1989. "Business conditions and expected returns on stocks and bonds," Journal of Financial Economics, Elsevier, vol. 25(1), pages 23-49, November.
  20. Mankiw, N.G. & Zeldes, S.P., 1990. "The Consumption Of Stockholders And Non-Stockholders," Weiss Center Working Papers 23-90, Wharton School - Weiss Center for International Financial Research.
  21. Cochrane, John H, 1992. "Explaining the Variance of Price-Dividend Ratios," Review of Financial Studies, Society for Financial Studies, vol. 5(2), pages 243-80.
  22. Chris I. Telmer, 1991. "Asset Pricing Puzzles and Incomplete Markets," Working Papers 806, Queen's University, Department of Economics.
  23. James M. Poterba & Lawrence H. Summers, 1987. "Mean Reversion in Stock Prices: Evidence and Implications," NBER Working Papers 2343, National Bureau of Economic Research, Inc.
  24. Lucas, Deborah J., 1994. "Asset pricing with undiversifiable income risk and short sales constraints: Deepening the equity premium puzzle," Journal of Monetary Economics, Elsevier, vol. 34(3), pages 325-341, December.
  25. Schwert, G William, 1989. " Why Does Stock Market Volatility Change over Time?," Journal of Finance, American Finance Association, vol. 44(5), pages 1115-53, December.
  26. Hayashi, Fumio & Altonji, Joseph & Kotlikoff, Laurence, 1996. "Risk-Sharing between and within Families," Econometrica, Econometric Society, vol. 64(2), pages 261-94, March.
  27. Kris Jacobs, 1999. "Incomplete Markets and Security Prices: Do Asset-Pricing Puzzles Result from Aggregation Problems?," Journal of Finance, American Finance Association, vol. 54(1), pages 123-163, 02.
  28. John Y. Campbell & John Cochrane, 1999. "Force of Habit: A Consumption-Based Explanation of Aggregate Stock Market Behavior," Journal of Political Economy, University of Chicago Press, vol. 107(2), pages 205-251, April.
  29. Basak, Suleyman & Cuoco, Domenico, 1998. "An Equilibrium Model with Restricted Stock Market Participation," Review of Financial Studies, Society for Financial Studies, vol. 11(2), pages 309-41.
Full references (including those not matched with items on IDEAS)

This item is not listed on Wikipedia, on a reading list or among the top items on IDEAS.

When requesting a correction, please mention this item's handle: RePEc:cup:jfinqa:v:39:y:2004:i:03:p:495-516_00. See general information about how to correct material in RePEc.

For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Keith Waters)

If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

If references are entirely missing, you can add them using this form.

If the full references list an item that is present in RePEc, but the system did not link to it, you can help with this form.

If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your profile, as there may be some citations waiting for confirmation.

Please note that corrections may take a couple of weeks to filter through the various RePEc services.

This information is provided to you by IDEAS at the Research Division of the Federal Reserve Bank of St. Louis using RePEc data.