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Pricing of the Time-Change Risks

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  • Ivan Shaliastovich
  • George Tauchen

Abstract

We develop a discrete-time real endowment economy featuring recursive preferences and a L´evy time-change subordinator, which represents a clock that connects business time to calendar time. This setup provides a convenient equilibrium framework for pricing non-Gaussian risks, with closed-form analytical solutions for the asset prices. We show that the non-Gaussianity of fundamentals due to time-deformation induces risk compensations whidh depend on higher order moments of consumption and dividend series. Persistence of the activity shocks leads to predictability of the endowment streams and timevariation in asset prices and risk premia. In numerical calibrations, we show that the compensation for L´evy risks accounts for about one-third of the overall risk premium in the economy.

Suggested Citation

  • Ivan Shaliastovich & George Tauchen, 2009. "Pricing of the Time-Change Risks," Working Papers 10-71, Duke University, Department of Economics.
    • Handle: RePEc:duk:dukeec:10-71
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    Cited by:

    1. is not listed on IDEAS
    2. Claudia Yeap & Simon S Kwok & S T Boris Choy, 2018. "A Flexible Generalized Hyperbolic Option Pricing Model and Its Special Cases," Journal of Financial Econometrics, Oxford University Press, vol. 16(3), pages 425-460.

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    JEL classification:

    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • D51 - Microeconomics - - General Equilibrium and Disequilibrium - - - Exchange and Production Economies
    • C51 - Mathematical and Quantitative Methods - - Econometric Modeling - - - Model Construction and Estimation

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