IDEAS home Printed from https://ideas.repec.org/p/lvl/lacicr/0316.html
   My bibliography  Save this paper

Asset Returns and State-Dependent Risk Preferences

Author

Listed:
  • Gordon, Stephen
  • St-Amour, Pascal

Abstract

We propose a consumption-based capital asset pricing model in which the representative agent's preferences display state-dependent risk aversion. We obtain a valuation equation in which the vector of excess on equity includes both consumption risk as well as the risk associated with variations in preferences. We develop a simple model that can be estimated without specifying the functional form linking risk aversion with state variables. Our estimates are based on Markov chain Monte Carlo estimation of exact discrete-time parameterizations for linear diffusion processes. Since consumption risk is not forced to account for the entire risk premium, our results contrast sharply with estimates from models in which risk aversion is state-independent. We find that relaxing fixed risk preferences yields estimates for relative risk aversion that are (i) reasonable by usual standards, (ii) correlated with both consumption and returns and (iii) indicative of an additional preference risk of holding the asests.

Suggested Citation

  • Gordon, Stephen & St-Amour, Pascal, 2003. "Asset Returns and State-Dependent Risk Preferences," Cahiers de recherche 0316, CIRPEE.
  • Handle: RePEc:lvl:lacicr:0316
    as

    Download full text from publisher

    File URL: http://www.cirpee.org/fileadmin/documents/Cahiers_2003/CIRPEE03-16.pdf
    Download Restriction: no

    Other versions of this item:

    Citations

    Blog mentions

    As found by EconAcademics.org, the blog aggregator for Economics research:
    1. Welfare costs of the business cycle and the equity premium
      by Stephen in Worthwhile Canadian Initiative on 2006-12-16 01:09:36

    Citations

    Citations are extracted by the CitEc Project, subscribe to its RSS feed for this item.
    as


    Cited by:

    1. Bollerslev, Tim & Gibson, Michael & Zhou, Hao, 2011. "Dynamic estimation of volatility risk premia and investor risk aversion from option-implied and realized volatilities," Journal of Econometrics, Elsevier, vol. 160(1), pages 235-245, January.
    2. 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.
    3. Luz Rocío Sotomayor & Abel Cadenillas, 2009. "Explicit Solutions Of Consumption-Investment Problems In Financial Markets With Regime Switching," Mathematical Finance, Wiley Blackwell, vol. 19(2), pages 251-279.
    4. Tim Bollerslev & George Tauchen & Hao Zhou, 2009. "Expected Stock Returns and Variance Risk Premia," Review of Financial Studies, Society for Financial Studies, vol. 22(11), pages 4463-4492, November.
    5. Bekaert, Geert & Engstrom, Eric & Grenadier, Steven R., 2010. "Stock and bond returns with Moody Investors," Journal of Empirical Finance, Elsevier, vol. 17(5), pages 867-894, December.
    6. Till Strohsal, 2013. "Testing the Preferred-Habitat Theory: The Role ofTime-Varying Risk Aversion," SFB 649 Discussion Papers SFB649DP2013-043, Sonderforschungsbereich 649, Humboldt University, Berlin, Germany.
    7. Maneesoonthorn, Worapree & Martin, Gael M. & Forbes, Catherine S. & Grose, Simone D., 2012. "Probabilistic forecasts of volatility and its risk premia," Journal of Econometrics, Elsevier, vol. 171(2), pages 217-236.
    8. Reyno SEYMORE & Margaret MABUGU & Jan VAN HEERDEN, "undated". "Border Tax Adjustments to Negate the Economic Impact of an Electricity Generation Tax," EcoMod2010 259600155, EcoMod.
    9. Dominique Pepin, 2011. "Instabilité des comportements et cycles financiers : une relecture dans un cadre rationnel avec préférences endogènes," Working Papers hal-00960012, HAL.
    10. Angelo Melino & Alan X. Yang, 2003. "State Dependent Preferences Can Explain the Equity Premium Puzzle," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 6(4), pages 806-830, October.
    11. Traian A. Pirvu & Huayue Zhang, 2012. "A Multi Period Equilibrium Pricing Model," Papers 1205.6193, arXiv.org.
    12. Martin Lettau & Sydney Ludvigson, 2009. "Euler Equation Errors," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 12(2), pages 255-283, April.
    13. Paulo Maio, 2013. "Intertemporal CAPM with Conditioning Variables," Management Science, INFORMS, vol. 59(1), pages 122-141, April.
    14. Andrei Semenov, 2003. "High-Order Consumption Moments and Asset Pricing," Working Papers 2003_4, York University, Department of Economics, revised Jan 2005.
    15. Gandelman, Néstor & Hernández-Murillo, Rubén, 2013. "What do happiness and health satisfaction data tell us about relative risk aversion?," Journal of Economic Psychology, Elsevier, vol. 39(C), pages 301-312.
    16. Gandelman, Nestor & Hernandez-Murillo, Ruben, 2015. "Risk Aversion at the Country Level," Review, Federal Reserve Bank of St. Louis, vol. 97(1), pages 53-66.
    17. Wu, Feng & Myers, Robert J. & Guan, Zhengfei & Wang, Zhiguang, 2015. "Risk-adjusted implied volatility and its performance in forecasting realized volatility in corn futures prices," Journal of Empirical Finance, Elsevier, vol. 34(C), pages 260-274.
    18. Andrei Semenov, 2004. "High-Order Consumption Moments and Asset Pricing," 2004 Meeting Papers 334, Society for Economic Dynamics.
    19. Ricardo M. Sousa, 2007. "Wealth Shocks and Risk Aversion," NIPE Working Papers 28/2007, NIPE - Universidade do Minho.
    20. Alan Guoming Huang & Eric Hughson & J. Chris Leach, 2016. "Generational Asset Pricing, Equity Puzzles, and Cyclicality," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 22, pages 52-71, October.
    21. Andrei Semenov, 2017. "Background risk in consumption and the equity risk premium," Review of Quantitative Finance and Accounting, Springer, vol. 48(2), pages 407-439, February.
    22. John Donaldson & Rajnish Mehra, 2007. "Risk Based Explanations of the Equity Premium," NBER Working Papers 13220, National Bureau of Economic Research, Inc.

    More about this item

    Keywords

    Asset pricing models; Bayesian analysis; continuous-time econometric models; data augmentation; equity premium puzzle; Markov chain Monte Carlo; risk aversion; state-dependent preferences; wealth;

    JEL classification:

    • C11 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods and Methodology: General - - - Bayesian Analysis: General
    • 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

    NEP fields

    This paper has been announced in the following NEP Reports:

    Statistics

    Access and download statistics

    Corrections

    All material on this site has been provided by the respective publishers and authors. You can help correct errors and omissions. When requesting a correction, please mention this item's handle: RePEc:lvl:lacicr:0316. 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: (Manuel Paradis). General contact details of provider: http://edirc.repec.org/data/cirpeca.html .

    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.

    We have no references for this item. You can help adding them by using 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 RePEc Author Service 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.

    IDEAS is a RePEc service hosted by the Research Division of the Federal Reserve Bank of St. Louis . RePEc uses bibliographic data supplied by the respective publishers.