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Time dependent relative risk aversion

Author

Listed:
  • Giacomini, Enzo
  • Handel, Michael
  • Härdle, Wolfgang Karl

Abstract

Risk management and the thorough understanding of the relations between financial markets and the standard theory of macroeconomics have always been among the topics most addressed by researchers, both financial mathematicians and economists. This work aims at explaining investors' behavior from a macroeconomic aspect (modeled by the investors' pricing kernel and their relative risk aversion) using stocks and options data. Daily estimates of investors' pricing kernel and relative risk aversion are obtained and used to construct and analyze a three-year long time-series. The first four moments of these time-series as well as their values at the money are the starting point of a principal component analysis. The relation between changes in a major index level and implied volatility at the money and between the principal components of the changes in relative risk aversion is found to be linear. The relation of the same explanatory variables to the principal components of the changes in pricing kernels is found to be log-linear, although this relation is not significant for all of the examined maturities.

Suggested Citation

  • Giacomini, Enzo & Handel, Michael & Härdle, Wolfgang Karl, 2006. "Time dependent relative risk aversion," SFB 649 Discussion Papers 2006-020, Humboldt University Berlin, Collaborative Research Center 649: Economic Risk.
    • Handle: RePEc:zbw:sfb649:sfb649dp2006-020
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    References listed on IDEAS

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    1. Kwiatkowski, Denis & Phillips, Peter C. B. & Schmidt, Peter & Shin, Yongcheol, 1992. "Testing the null hypothesis of stationarity against the alternative of a unit root : How sure are we that economic time series have a unit root?," Journal of Econometrics, Elsevier, vol. 54(1-3), pages 159-178.
    2. Jackwerth, Jens Carsten, 2000. "Recovering Risk Aversion from Option Prices and Realized Returns," The Review of Financial Studies, Society for Financial Studies, vol. 13(2), pages 433-451.
    3. Mark Rubinstein, 1976. "The Valuation of Uncertain Income Streams and the Pricing of Options," Bell Journal of Economics, The RAND Corporation, vol. 7(2), pages 407-425, Autumn.
    4. Breeden, Douglas T & Litzenberger, Robert H, 1978. "Prices of State-contingent Claims Implicit in Option Prices," The Journal of Business, University of Chicago Press, vol. 51(4), pages 621-651, October.
    5. Lucas, Robert E, Jr, 1978. "Asset Prices in an Exchange Economy," Econometrica, Econometric Society, vol. 46(6), pages 1429-1445, November.
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    1. repec:hum:wpaper:sfb649dp2008-001 is not listed on IDEAS
    2. Bedoui, Rihab & Hamdi, Haykel, 2015. "Option-implied risk aversion estimation," The Journal of Economic Asymmetries, Elsevier, vol. 12(2), pages 142-152.
    3. repec:hum:wpaper:sfb649dp2007-027 is not listed on IDEAS

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    Keywords

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    JEL classification:

    • C13 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods and Methodology: General - - - Estimation: General
    • C22 - Mathematical and Quantitative Methods - - Single Equation Models; Single Variables - - - Time-Series Models; Dynamic Quantile Regressions; Dynamic Treatment Effect Models; Diffusion Processes
    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates

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