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Learning, Structural Instability, and Present Value Calculations

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  • Hashem Pesaran
  • Davide Pettenuzzo
  • Allan Timmermann

Abstract

Present value calculations require predictions of cash flows both at near and distant future points in time. Such predictions are generally surrounded by considerable uncertainty and may critically depend on assumptions about parameter values as well as the form and stability of the data generating process underlying the cash flows. This paper presents new theoretical results for the existence of the infinite sum of discounted expected future values under uncertainty about the parameters characterizing the growth rate of the cash flow process. Furthermore, we explore the consequences for present values of relaxing the stability assumption in a way that allows for past and future breaks to the underlying cash flow process. We find that such breaks can lead to considerable changes in present values.

Suggested Citation

  • Hashem Pesaran & Davide Pettenuzzo & Allan Timmermann, 2007. "Learning, Structural Instability, and Present Value Calculations," Econometric Reviews, Taylor & Francis Journals, vol. 26(2-4), pages 253-288.
    • Handle: RePEc:taf:emetrv:v:26:y:2007:i:2-4:p:253-288
    DOI: 10.1080/07474930701220352
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    More about this item

    Keywords

    Bayesian learning; Present value; Stock prices; Structural breaks;
    All these keywords.

    JEL classification:

    • G22 - Financial Economics - - Financial Institutions and Services - - - Insurance; Insurance Companies; Actuarial Studies
    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • C11 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods and Methodology: General - - - Bayesian Analysis: General

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