Consumption Based Asset Pricing With Rare Disaster Risk A Simulated Method Of Moments Approach PDF Download
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| Author | : Joachim Grammig |
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| Total Pages | : |
| Release | : 2014 |
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Download Consumption-based Asset Pricing with Rare Disaster Risk Book in PDF, ePub and Kindle
The rare disaster hypothesis suggests that the extraordinarily high postwar U.S. equity premium resulted because investors ex ante demanded compensation for unlikely but calamitous risks that they happened not to incur. Although convincing in theory, empirical tests of the rare disaster explanation are scarce. We estimate a disaster-including consumption-based asset pricing model (CBM) using a combination of the simulated method of moments and bootstrapping. We consider several methodological alternatives that differ in the moment matches and the way to account for disasters in the simulated consumption growth and return series. Whichever specification is used, the estimated preference parameters are of an economically plausible size, and the estimation precision is much higher than in previous studies that use the canonical CBM. Our results thus provide empirical support for the rare disaster hypothesis, and help reconcile the nexus between real economy and financial markets implied by the consumption-based asset pricing paradigm.
| Author | : Joachim Grammig |
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| Total Pages | : 52 |
| Release | : 2018 |
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Download Consumption-Based Asset Pricing with Rare Disaster Risk - A Simulated Method of Moments Approach Book in PDF, ePub and Kindle
We propose a simulated method of moments strategy to estimate a consumption-based asset pricing model (CBM) that accounts for the possibility of severe economic contractions, thereby providing a test of the rare disaster hypothesis and a re-evaluation of the empirical performance of the canonical CBM. Unlike in previous studies, the estimates of the investor preference parameters and the model-implied equity premium, mean risk-free rate, and market Sharpe ratio are economically plausible and precise. Accounting for rare disasters thus helps to restore the nexus between financial markets and the real economy that is implied by the CBM.
| Author | : Jantje Sönksen |
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| Total Pages | : 70 |
| Release | : 2018 |
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Download The Taming of the Two - Simulation-Based Asset Pricing with Multi-Period Disasters and Two Consumption Goods Book in PDF, ePub and Kindle
This study proposes a novel approach to facilitate the estimation of the preference parameters of a two consumption good C-CAPM that accounts for multi-period disasters, partial government defaults, and the possible destruction of the stock of the durable good. The maximum likelihood estimation of the disaster process parameters requires a cross-country panel of historical consumption data and international business cycle dates. The estimation of the risk aversion coefficient and the intertemporal elasticity of substitution (IES) is facilitated by the simulated method of moments. The results show that the empirical equity premium can be explained with economically plausible and quite precise risk aversion and IES estimates. This conclusion withstands a battery of robustness checks.
| Author | : Jantje Sönksen |
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| Release | : 2020 |
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Download Empirical Asset Pricing with Multi-period Disaster Risk Book in PDF, ePub and Kindle
We propose a simulation-based strategy to estimate and empirically assess a class of asset pricing models that account for rare but severe consumption contractions that can extend over multiple periods. Our approach expands the scope of prevalent calibration studies and tackles the inherent sample selection problem associated with measuring the effect of rare disaster risk on asset prices. An analysis based on postwar U.S. and historical multi-country panel data yields estimates of investor preference parameters that are economically plausible and robust with respect to alternative specifications. The estimated model withstands tests of validity; the model-implied key financial indicators and timing premium all have reasonable magnitudes. These findings suggest that the rare disaster hypothesis can help restore the nexus between the real economy and financial markets when allowing for multi-period disaster events.Our methodological contribution is a new econometric framework for empirical asset pricing with rare disaster risk.
| Author | : Joachim Grammig |
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| Total Pages | : 56 |
| Release | : 2014 |
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Download Give Me Strong Moments and Time Book in PDF, ePub and Kindle
The long-run consumption risk (LRR) model is a promising approach to resolve prominent asset pricing puzzles. The simulated method of moments (SMM) provides a natural framework to estimate its deep parameters, but caveats concern model solubility and weak identification. We propose a twostep estimation strategy that combines GMM and SMM, and for which we elicit informative macroeconomic and financial moment matches from the LRR model structure. In particular, we exploit the persistent serial correlation of consumption and dividend growth and the equilibrium conditions for market return and risk-free rate, as well as the model-implied predictability of the risk-free rate. We match analytical moments when possible and simulated moments when necessary and determine the crucial factors required for both identification and reasonable estimation precision. A simulation study|the first in the context of long-run risk modeling|delineates the pitfalls associated with SMM estimation of a non-linear dynamic asset pricing model. Our study provides a blueprint for successful estimation of the LRR model.
| Author | : Joachim Grammig |
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| Total Pages | : |
| Release | : 2014 |
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Download Give Me Strong Moments and Time: Combining GMM and SMM to Estimate Long-run Risk Asset Pricing Models Book in PDF, ePub and Kindle
The long-run consumption risk (LRR) model is a promising approach to resolve prominent asset pricing puzzles. The simulated method of moments (SMM) provides a natural framework to estimate its deep parameters, but caveats concern model solubility and weak identification. We propose a two-step estimation strategy that combines GMM and SMM, and for which we elicit informative macroeconomic and financial moment matches from the LRR model structure. In particular, we exploit the persistent serial correlation of consumption and dividend growth and the equilibrium conditions for market return and risk-free rate, as well as the model-implied predictability of the risk-free rate. We match analytical moments when possible and simulated moments when necessary and determine the crucial factors required for both identification and reasonable estimation precision. A simulation study - the first in the context of long-run risk modeling - delineates the pitfalls associated with SMM estimation of a non-linear dynamic asset pricing model. Our study provides a blueprint for successful estimation of the LRR model.
| Author | : Ian Martin |
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| Total Pages | : 39 |
| Release | : 2010 |
| Genre | : Assets (Accounting) |
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Download Consumption-based Asset Pricing with Higher Cumulants Book in PDF, ePub and Kindle
I extend the Epstein-Zin-lognormal consumption-based asset-pricing model to allow for general i.i.d. consumption growth. Information about the higher moments--equivalently, cumulants--of consumption growth is encoded in the cumulant-generating function. I apply the framework to economies with rare disasters, and argue that the importance of such disasters is a double-edged sword: parameters that govern the frequency and sizes of rare disasters are critically important for asset pricing, but extremely hard to calibrate. I show how to sidestep this issue by using observable asset prices to make inferences that are robust to the details of the underlying consumption process.
| Author | : Jantje Sönksen |
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| Total Pages | : 49 |
| Release | : 2017 |
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Download Empirical Asset Pricing with Multi-Period Disasters and Partial Government Defaults Book in PDF, ePub and Kindle
According to the rare disaster hypothesis, the extraordinary mean excess returns on U.S. equity portfolios during the postwar period resulted because investors ex ante demanded a compensation for possibly disastrous but very unlikely risks that they ex post did not incur. Empirical tests of the rare disaster hypothesis are scarce, and the frequently used assumption that disasters shrink to one-period events is under suspicion of being the driving force behind the hypothesis' success in calibrations. This study proposes a simulation-based approach to estimate an asset pricing model that accounts for multi-period disasters, partial government defaults, and recursive investor preferences. The empirical results corroborate that the rare disaster hypothesis helps to restore the nexus between the real economy and financial markets that is implied by the consumption-based asset pricing paradigm. The estimates of the subjective discount factor, relative risk aversion, and the intertemporal elasticity of substitution are economically reasonable, rather precise, and robust with respect to alternative model specifications. Moreover, the model-implied equity premium, mean T-bill return, and market Sharpe ratio are plausible and consistent with empirical data.
| Author | : Douglas T. Breeden |
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| Release | : 2015 |
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Download Consumption-Based Asset Pricing, Part 2 Book in PDF, ePub and Kindle
Following Part 1 of this article, which reviews late-1970s to 1990s classic derivations and tests of the consumption capital asset pricing model, here in Part 2 we review more recent developments, some of which are based on utility functions with non-time-separable preferences. Important second-generation consumption-based asset pricing advances are also reviewed, including models with habit formation and long-run risk. These models give large cyclical changes in relative risk aversion and risk premiums as well as lagged impacts of aggregate consumption changes on risk premiums. We review asset pricing with rare disasters and models focused on consumer spending on durables and real estate, as well as the fraction of spending financed by labor income. The second-generation models discussed have more free parameters and fit the empirical data better than did the first-generation consumption-based asset pricing models.
| Author | : Yang K. Lu |
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| Total Pages | : 35 |
| Release | : 2016 |
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Download Learning, Rare Disasters, and Asset Prices Book in PDF, ePub and Kindle
We incorporate joint learning about state and parameter into a consumption-based asset pricing model with rare disasters. Agents are uncertain whether a negative shock signals the onset of a disaster or how much long-term damage a disaster will cause and they update their beliefs over time. The interaction of state and parameter uncertainty increases the total amount of uncertainty and slows learning. Once the two types of uncertainty are both priced in asset prices, their joint effect enables our model to account for the level and volatility of U.S. equity returns without relying on exogenous variation in disaster risk or any realization of disaster shock in the data sample.
