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Macroeconomic Shocks and Risk Premia

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  • Gabor Pinter

    () (Centre for Macroeconomics (CFM)
    Bank of England)

Abstract

This paper integrates models of empirical asset pricing with structural vector autoregressions (VAR) to explore the macroeconomic forces behind the cross-sectional and time-series variation in expected excess returns. First, I use an unconditional asset pricing framework to find an orthogonal shock in a macroeconomic VAR that best explains the cross-sectional variation in expected returns. The obtained “λ-shock” closely resembles identified monetary policy surprises and does not explain the recent US recessions. Second, I integrate return-forecasting methods to construct a second shock in the VAR, which best explains time-variation in expected returns. The obtained “γ-shock” turns out to be virtually orthogonal to the λ-shock, closely resembles demand-type financial shocks identified by macroeconomists, and explains most US recessions. I find that the λ-shock and the γ-shock jointly explain up to 80% of aggregate consumption fluctuations in the US.

Suggested Citation

  • Gabor Pinter, 2018. "Macroeconomic Shocks and Risk Premia," Discussion Papers 1812, Centre for Macroeconomics (CFM).
  • Handle: RePEc:cfm:wpaper:1812
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    References listed on IDEAS

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    More about this item

    Keywords

    SDF; VAR; Shocks; Cross-section of returns; Time-varying risk premia;

    JEL classification:

    • C32 - Mathematical and Quantitative Methods - - Multiple or Simultaneous Equation Models; Multiple Variables - - - Time-Series Models; Dynamic Quantile Regressions; Dynamic Treatment Effect Models; Diffusion Processes; State Space Models
    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates

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