Ambiguity Aversion and Asset Prices in Production Economies

Hening Liu; Mohammad Jahan-Parvar

doi:10.1093/rfs/hhu037

Ambiguity Aversion and Asset Prices in Production Economies

Hening Liu, Mohammad Jahan-Parvar

A&F Accounting & Finance

Research output: Contribution to journal › Article › peer-review

Abstract

We examine a production-based asset pricing model with an unobservable mean growth rate following a two-state Markov chain and with an ambiguity averse representative agent. Our model requires a low coefficient of relative risk aversion to produce: (i) a high equity premium and volatile equity returns, (ii) a low and smooth risk-free rate, (iii) smooth consumption growth and volatile investment growth, (iv) countercyclical equity premium and market price of risk, (v) conditional heteroscedasticity in returns, and (vi) long-horizon predictability of excess returns.

Original language	English
Pages (from-to)	3060-3097
Number of pages	37
Journal	Review of Financial Studies
Volume	27
DOIs	https://doi.org/10.1093/rfs/hhu037
Publication status	Published - Oct 2014

Keywords

Ambiguity aversion, equity premium puzzle, Markov switching, production economy, smooth ambiguity

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10.1093/rfs/hhu037

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abstract = "We examine a production-based asset pricing model with an unobservable mean growth rate following a two-state Markov chain and with an ambiguity averse representative agent. Our model requires a low coefficient of relative risk aversion to produce: (i) a high equity premium and volatile equity returns, (ii) a low and smooth risk-free rate, (iii) smooth consumption growth and volatile investment growth, (iv) countercyclical equity premium and market price of risk, (v) conditional heteroscedasticity in returns, and (vi) long-horizon predictability of excess returns.",

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AB - We examine a production-based asset pricing model with an unobservable mean growth rate following a two-state Markov chain and with an ambiguity averse representative agent. Our model requires a low coefficient of relative risk aversion to produce: (i) a high equity premium and volatile equity returns, (ii) a low and smooth risk-free rate, (iii) smooth consumption growth and volatile investment growth, (iv) countercyclical equity premium and market price of risk, (v) conditional heteroscedasticity in returns, and (vi) long-horizon predictability of excess returns.

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DO - 10.1093/rfs/hhu037

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JO - Review of Financial Studies

JF - Review of Financial Studies

ER -

Ambiguity Aversion and Asset Prices in Production Economies

Abstract

Keywords

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