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Option Pricing Kernels and the ICAPM

  • Brennan, Michael J
  • LIU, XIAOQUAN
  • Xia, Yihong

We estimate the parameters of pricing kernels that depend on both aggregate wealth and state variables that describe the investment opportunity set, using FTSE 100 and S&P 500 index option returns as the returns to be priced. The coefficients of the state variables are highly significant and remarkably consistent across specifications of the pricing kernal, and across the two markets. The results provided further strong evidence, which is consistent with Merton's (1973a) Intertemporal Capital Asset Pricing Model, that state variables in addition to market risk are priced.

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Paper provided by Anderson Graduate School of Management, UCLA in its series University of California at Los Angeles, Anderson Graduate School of Management with number qt4d90p8ss.

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Date of creation: 29 Jun 2005
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Handle: RePEc:cdl:anderf:qt4d90p8ss
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Web page: http://www.escholarship.org/repec/anderson_fin/

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  8. Ferson, Wayne E. & Foerster, Stephen R., 1994. "Finite sample properties of the generalized method of moments in tests of conditional asset pricing models," Journal of Financial Economics, Elsevier, vol. 36(1), pages 29-55, August.
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  11. Pedro Santa-Clara & Shu Yan, 2004. "Jump and Volatility Risk and Risk Premia: A New Model and Lessons from S&P 500 Options," NBER Working Papers 10912, National Bureau of Economic Research, Inc.
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  25. Buraschi, Andrea & Jackwerth, Jens, 2001. "The Price of a Smile: Hedging and Spanning in Option Markets," Review of Financial Studies, Society for Financial Studies, vol. 14(2), pages 495-527.
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