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Valuation Risk Revalued

Author

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  • Oliver de Groot
  • Alexander W. Richter
  • Nathanial A. Throckmorton

Abstract

This paper shows the recent success of valuation risk (time-preference shocks in EpsteinZin utility) in resolving asset pricing puzzles rests sensitively on an undesirable asymptote that occurs because the preference specification fails to satisfy a key restriction on the weights in the Epstein-Zin time-aggregator. When we revise the preferences to satisfy the restriction in a simple asset pricing model, the puzzles resurface. However, when estimating a sequence of Bansal-Yaron long-run risk models, we find valuation risk under the revised specification consistently improves the ability of the models to match asset price and cash-flow dynamics.

Suggested Citation

  • Oliver de Groot & Alexander W. Richter & Nathanial A. Throckmorton, 2019. "Valuation Risk Revalued," Working Papers 201904, University of Liverpool, Department of Economics.
    • Handle: RePEc:liv:livedp:201904
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    2. Thomas J. Sargent & John Stachurski, 2024. "Dynamic Programming: Finite States," Papers 2401.10473, arXiv.org.
    3. Stachurski, John & Wilms, Ole & Zhang, Junnan, 2024. "Asset pricing with time preference shocks: Existence and uniqueness," Journal of Economic Theory, Elsevier, vol. 216(C).
    4. Stachurski, John & Wilms, Ole & Zhang, Junnan, 2024. "Asset pricing with time preference shocks: Existence and uniqueness," Other publications TiSEM 29da00af-3cca-4717-aa55-a, Tilburg University, School of Economics and Management.
    5. Filep-Mosberger, Palma & Kaszab, Lorant, 2024. "The endogenous growth and asset prices nexus revisited with closed-form solution," Finance Research Letters, Elsevier, vol. 68(C).

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    More about this item

    Keywords

    Epstein-Zin Utility; Asset Pricing; Equity Premium Puzzle; Risk-Free Rate Puzzle;
    All these keywords.

    JEL classification:

    • D81 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Criteria for Decision-Making under Risk and Uncertainty
    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates

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