IDEAS home Printed from https://ideas.repec.org/
MyIDEAS: Log in (now much improved!) to save this paper

Happiness maintenance and asset prices

Listed author(s):
  • Antonio Falato

This paper constructs a simple dynamic asset pricing model which incorporates recent evidence on the influence of immediate emotions on risk preferences. Investors derive direct utility from both consumption and financial wealth and, consistent with the happiness maintenance feature documented by Isen (1999) and others, become more cautious toward their wealth in good times. Mild pro-cyclical changes in risk aversion over wealth cause large pro-cyclical fluctuations in the current price-dividend ratio which, due to general equilibrium restrictions, translate into counter-cyclical variation in the current consumption-wealth ratio and, in turn, in expected future returns. With a realistic consumption growth process and reasonable preference parameters, the model generates a sizable equity premium, a low and stable risk-free rate, volatile and predictable stock returns, and price-dividend and Sharpe ratios in line with the data.

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://www.federalreserve.gov/pubs/feds/2008/200819/200819abs.html
Download Restriction: no

File URL: http://www.federalreserve.gov/pubs/feds/2008/200819/200819pap.pdf
Download Restriction: no

Paper provided by Board of Governors of the Federal Reserve System (U.S.) in its series Finance and Economics Discussion Series with number 2008-19.

as
in new window

Length:
Date of creation: 2008
Handle: RePEc:fip:fedgfe:2008-19
Contact details of provider: Postal:
20th Street and Constitution Avenue, NW, Washington, DC 20551

Web page: http://www.federalreserve.gov/

More information through EDIRC

Order Information: Web: http://www.federalreserve.gov/pubs/feds/fedsorder.html

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. repec:fth:jonhop:430 is not listed on IDEAS
  2. Campbell, John, 1993. "Intertemporal Asset Pricing Without Consumption Data," Scholarly Articles 3221491, Harvard University Department of Economics.
  3. Antonio Falato, 2003. "Happiness Maintenance and Asset Prices," Finance 0310003, EconWPA.
  4. Lettau, Martin & Ludvigson, Sydney, 1999. "Consumption, Aggregate Wealth and Expected Stock Returns," CEPR Discussion Papers 2223, C.E.P.R. Discussion Papers.
  5. Edward C. Prescott & Rajnish Mehra, 2005. "Recursive Competitive Equilibrium: The Case Of Homogeneous Households," World Scientific Book Chapters, in: Theory Of Valuation, chapter 11, pages 357-371 World Scientific Publishing Co. Pte. Ltd..
  6. Bruno S. Frey & Alois Stutzer, "undated". "What can Economists Learn from Happiness Research?," IEW - Working Papers 080, Institute for Empirical Research in Economics - University of Zurich.
  7. R. Mehra & E. Prescott, 2010. "The equity premium: a puzzle," Levine's Working Paper Archive 1401, David K. Levine.
  8. Nicholas Barberis & Ming Huang & Tano Santos, 2001. "Prospect Theory and Asset Prices," The Quarterly Journal of Economics, Oxford University Press, vol. 116(1), pages 1-53.
  9. David Hirshleifer & TYLER G. SHUMWAY, 2004. "Good Day Sunshine: Stock Returns and the Weather," Finance 0412004, EconWPA.
  10. John Y. Campbell, 1998. "Asset Prices, Consumption, and the Business Cycle," NBER Working Papers 6485, National Bureau of Economic Research, Inc.
  11. Easterlin, Richard A, 2001. "Income and Happiness: Towards an Unified Theory," Economic Journal, Royal Economic Society, vol. 111(473), pages 465-484, July.
  12. John Y. Campbell, 1990. "A Variance Decomposition for Stock Returns," NBER Working Papers 3246, National Bureau of Economic Research, Inc.
  13. Rajnish Mehra & Raaj Sah, 1999. "Can Small Fluctuations in Investors' Subjective Preferences Induce Large Volatility in Equity Prices?," Working Papers 9917, Harris School of Public Policy Studies, University of Chicago.
  14. Blanchflower, David G. & Oswald, Andrew J., 2001. "Well-Being Over Time in Britain and the USA," The Warwick Economics Research Paper Series (TWERPS) 616, University of Warwick, Department of Economics.
  15. Thomas Tallarini, "undated". "Risk-Sensitive Real Business Cycles," GSIA Working Papers 1997-35, Carnegie Mellon University, Tepper School of Business.
  16. Gurdip S. Bakshi & Zhiwu Chen, 1996. "The Spirit of Capitalism and Stock-Market Prices," CEMA Working Papers 511, China Economics and Management Academy, Central University of Finance and Economics.
  17. Harold L. Cole & George J. Mailath & Andrew Postlewaite, "undated". ""Incorporating Concern for Relative Wealth into Economic Models''," CARESS Working Papres 95-14, University of Pennsylvania Center for Analytic Research and Economics in the Social Sciences.
  18. Danthine, Jean-Pierre & Donaldson, John B. & Giannikos, Christos & Guirguis, Hany, 2004. "On the consequences of state dependent preferences for the pricing of financial assets," Finance Research Letters, Elsevier, vol. 1(3), pages 143-153, September.
  19. Robert B. Barsky & J. Bradford De Long, 1993. "Why Does the Stock Market Fluctuate?," The Quarterly Journal of Economics, Oxford University Press, vol. 108(2), pages 291-311.
  20. Epstein, Larry G & Zin, Stanley E, 1991. "Substitution, Risk Aversion, and the Temporal Behavior of Consumption and Asset Returns: An Empirical Analysis," Journal of Political Economy, University of Chicago Press, vol. 99(2), pages 263-286, April.
  21. Narayana R. Kocherlakota, 1996. "The Equity Premium: It's Still a Puzzle," Journal of Economic Literature, American Economic Association, vol. 34(1), pages 42-71, March.
  22. John Y. Campbell, Robert J. Shiller, 1988. "The Dividend-Price Ratio and Expectations of Future Dividends and Discount Factors," Review of Financial Studies, Society for Financial Studies, vol. 1(3), pages 195-228.
  23. Hanno Lustig & Stijn Van Nieuwerburg & Adrien Verdelhan, 2007. "The Wealth-Consumption Ratio: A Litmus Test for Consumption-based Asset Pricing Models¤," Boston University - Department of Economics - Working Papers Series WP2007-030, Boston University - Department of Economics.
  24. Philippe Weil, 1989. "The Equity Premium Puzzle and the Riskfree Rate Puzzle," Sciences Po publications info:hdl:2441/8686, Sciences Po.
  25. John Y. Campbell & John H. Cochrane, 1994. "By Force of Habit: A Consumption-Based Explanation of Aggregate Stock Market Behavior," CRSP working papers 412, Center for Research in Security Prices, Graduate School of Business, University of Chicago.
  26. Gordon, Stephen & St-Amour, Pascal, 1999. "A Preference Regime Model of Bull and Bear Markets," Cahiers de recherche 9906, Université Laval - Département d'économique.
  27. Lustig, Hanno & van Nieuwerburgh, Stijn & Verdelhan, Adrien, 2012. "The Wealth-Consumption Ratio," CEPR Discussion Papers 9022, C.E.P.R. Discussion Papers.
  28. Zin, Stanley E., 2002. "Are behavioral asset-pricing models structural?," Journal of Monetary Economics, Elsevier, vol. 49(1), pages 215-228, January.
  29. Constantinides, George M, 1990. "Habit Formation: A Resolution of the Equity Premium Puzzle," Journal of Political Economy, University of Chicago Press, vol. 98(3), pages 519-543, June.
  30. Saunders, Edward M, Jr, 1993. "Stock Prices and Wall Street Weather," American Economic Review, American Economic Association, vol. 83(5), pages 1337-1345, December.
  31. Hansen, Lars Peter & Sargent, Thomas J. & Wang, Neng E., 2002. "Robust Permanent Income And Pricing With Filtering," Macroeconomic Dynamics, Cambridge University Press, vol. 6(01), pages 40-84, February.
  32. Isen, Alice M. & Geva, Nehemia, 1987. "The influence of positive affect on acceptable level of risk: The person with a large canoe has a large worry," Organizational Behavior and Human Decision Processes, Elsevier, vol. 39(2), pages 145-154, April.
  33. repec:cup:macdyn:v:6:y:2002:i:1:p:40-84 is not listed on IDEAS
  34. Kamstra, M.J. & Kramer, L.A. & Levi, M.D., 1998. "Losing Sleep at the Market: The Daylight-Savings Anomaly," Discussion Papers dp98-04, Department of Economics, Simon Fraser University.
  35. David Hirshleifer, 2001. "Investor Psychology and Asset Pricing," Journal of Finance, American Finance Association, vol. 56(4), pages 1533-1597, 08.
  36. Christopher D. Carroll, 2000. "Portfolios of the Rich," NBER Working Papers 7826, National Bureau of Economic Research, Inc.
  37. Ravi Bansal & Amir Yaron, 2004. "Risks for the Long Run: A Potential Resolution of Asset Pricing Puzzles," Journal of Finance, American Finance Association, vol. 59(4), pages 1481-1509, 08.
  38. Sundaresan, Suresh M, 1989. "Intertemporally Dependent Preferences and the Volatility of Consumption and Wealth," Review of Financial Studies, Society for Financial Studies, vol. 2(1), pages 73-89.
  39. Di Tella, R. & MacCulloch, R.J.: Oswald, A.J., 1997. "The Macroeconomics of Happiness," Papers 19, Centre for Economic Performance & Institute of Economics.
  40. Monika Piazzesi & Martin Schneider & Selale Tuzel, 2004. "Housing, Consumption and Asset Pricing," 2004 Meeting Papers 357c, Society for Economic Dynamics.
  41. Paul A. Samuelson, 1937. "A Note on Measurement of Utility," Review of Economic Studies, Oxford University Press, vol. 4(2), pages 155-161.
  42. Shmuel Kandel & Robert F. Stambaugh, 1991. "Asset Returns and Intertemporal Preferences," NBER Working Papers 3633, National Bureau of Economic Research, Inc.
  43. Christopher D. Carroll, 1998. "Why Do the Rich Save So Much?," NBER Working Papers 6549, National Bureau of Economic Research, Inc.
  44. Philippe Weil, 1989. "The Equity Premium Puzzle and the Riskfree Rate Puzzle," NBER Working Papers 2829, National Bureau of Economic Research, Inc.
  45. Angelo Melino & Alan X. Yang, 2003. "State Dependent Preferences Can Explain the Equity Premium Puzzle," Working Papers melino-03-01, University of Toronto, Department of Economics.
  46. George Loewenstein, 2000. "Emotions in Economic Theory and Economic Behavior," American Economic Review, American Economic Association, vol. 90(2), pages 426-432, May.
  47. Andrew W. Lo & Dmitry V. Repin, 2001. "The Psychophysiology of Real-Time Financial Risk Processing," NBER Working Papers 8508, National Bureau of Economic Research, Inc.
  48. Easterlin, Richard A., 1995. "Will raising the incomes of all increase the happiness of all?," Journal of Economic Behavior & Organization, Elsevier, vol. 27(1), pages 35-47, June.
  49. Epstein, Larry G & Zin, Stanley E, 1989. "Substitution, Risk Aversion, and the Temporal Behavior of Consumption and Asset Returns: A Theoretical Framework," Econometrica, Econometric Society, vol. 57(4), pages 937-969, July.
  50. Kocherlakota, Narayana R., 1990. "On the 'discount' factor in growth economies," Journal of Monetary Economics, Elsevier, vol. 25(1), pages 43-47, January.
  51. Laibson, David I., 2000. "A Cue-Theory of Consumption," Scholarly Articles 4481496, Harvard University Department of Economics.
  52. Albert Marcet & David A. Marshall, 1992. "Convergence of approximate model solutions to rational expectation equilibria using the method of parameterized expectations," Economics Working Papers 17, Department of Economics and Business, Universitat Pompeu Fabra.
  53. Arkes, Hal R. & Herren, Lisa Tandy & Isen, Alice M., 1988. "The role of potential loss in the influence of affect on risk-taking behavior," Organizational Behavior and Human Decision Processes, Elsevier, vol. 42(2), pages 181-193, October.
  54. J.J. Ehrhardt & W.E. Saris & R. Veenhoven, 2000. "Stability of Life-satisfaction over Time," Journal of Happiness Studies, Springer, vol. 1(2), pages 177-205, June.
  55. Shleifer, Andrei, 2000. "Inefficient Markets: An Introduction to Behavioral Finance," OUP Catalogue, Oxford University Press, number 9780198292272.
  56. Richard A. Easterlin, 2000. "The Worldwide Standard of Living since 1800," Journal of Economic Perspectives, American Economic Association, vol. 14(1), pages 7-26, Winter.
  57. Lior Menzly & Tano Santos & Pietro Veronesi, 2004. "Understanding Predictability," Journal of Political Economy, University of Chicago Press, vol. 112(1), pages 1-47, February.
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:fip:fedgfe:2008-19. 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: (Franz Osorio)

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.