Showing papers on "Capital asset pricing model published in 1990"

Continuous-Time Finance

Abstract: Section I: Introductin to Finance and the Mathematics of Continuous-Time Models 1 Modern Finance 2 Introduction to Portfolio Selection and Capital Market Theory: Static Analysis 3 On the Mathematics and Economic Assumptions of Continuous-Time Financial Models Section II: Optimum Consumption and Portfolio Selection in Continuous-Time Models 4. Lifetime Portfolio Selection under Uncertainty: The Continuous-Time Case 5. Optimum Consumption and Portfolio Rules in a Continuous-Time Model 6. Further Developments in theory of Optimal Consumption and Portfolio Selection Section III: Warrant and Option Pricing Theory 7. A Complete Model of Warrant Pricing the Maximizes Utility 8. Theory of Rational Option Pricing 9. Option Pricing when Underlying Stock Returns are Discontinuous 10. Further Developments in Option Pricing Theory Section IV: Contingent-Claims Analysis in the Theory of Corporate Finance and Financial Intermediation 11. A Dynamic General Equilibrium Model of the Asset Market and its Application to the Pricing of the Capital Structure of the Firm 12. On the Pricing of Corporate Debt: The Risk Structure of Interest Rates 13. On the Pricing of Contingent Claims and the Modigliani-Miller Theorem 14. Contingent Claims Analysis in the Theory of Corporate Finance and Financial Intermediation Section V: An Intertemporal-Equilibrium Theory of Finance 15. An Intertemporal Capital Asset Pricing Model 16. A General Equilibrium Theory of Finance in Continuous-Time Section VI: Applications of the Continuous-Time Model to Selected Issues in Public Finance 17. An Asymptotic Theory of Growth Under Uncertainty 18. On Consumption-Indexed Public Pension Plans 19. An Analytic Derivation of the Cost of Loan Guarantees and Deposit Insurance 20. On the Cost of Deposit Insurance when there are Surveillance Costs

Asset Prices under Habit Formation and Catching Up with the Joneses

Abstract: This paper introduces a utility function that nests three classes of utility functions: (1) time-separable utility functions; (2) "catching up with the Joneses" utility functions that depend on the consumer's level of consumption relative to the lagged cross-sectional average level of consumption; and (3) utility functions that display habit formation. Closed-form solutions for equilibrium asset prices are derived under the assumption that consumption growth is i.i.d. The equity premia under catching up with the Joneses and under habit formation are, for some parameter values, as large as the historically observed equity premium in the United States

Simulated Moments Estimation of Markov Models of Asset Prices

Abstract: This paper provides a simulated moments estimator (SME) of the parameters of dynamic models in which the state vector follows a time-homogeneous Markov process. Conditions are provided for both weak and strong consistency as well as asymptotic normality. Various tradeoff's among the regularity conditions underlying the large sample properties of the SME are discussed in the context of an asset pricing model.

Stock Returns and Volatility

Abstract: Most asset pricing models postulate a positive relationship between a stock portfolio's expected returns and risk, which is often modeled by the variance of the asset price. This paper uses GARCH in mean models to examine the relationship between mean returns on a stock portfolio and its conditional variance or standard deviation. After estimating a variety of models from daily and monthly portfolio return data, we conclude that any relationship between mean returns and own variance or standard deviation is weak. The results suggest that investors consider some other risk measure to be more important than the variance of portfolio returns.

Asset Pricing and Optimal Portfolio Choice in the Presence of Illiquid Durable Consumption Goods

Abstract: We analyze a model of optimal consumption and portfolio selection in which consumption services are generated by holding a durable good. The durable good is illiquid in that a transaction cost must be paid when the good is sold. It is shown that optimal consumption is not a smooth function of wealth; it is optimal for the consumer to wait until a large change in wealth occurs before adjusting his consumption. As a consequence, the consumption based capital asset pricing model fails to hold. Nevertheless, it is shown that the standard, one factor, market portfolio based capital asset pricing model does hold in this environment. It is shown that the optimal durable level is characterized by three numbers (not random variables), say x, y, and z (where $x ). The consumer views the ratio of consumption to wealth (c/W) as his state variable. If this ratio is between x and z, then he does not sell the durable. If c/W is less than x or greater than z, then he sells his durable and buys a new durable of size S so that S/W = y. Thus y is his "target" level of c/W. If the stock market moves up enough so that c/W falls below x, then he sells his small durable to buy a larger durable. However, there will be many changes in the value of his wealth for which c/W stays between x and z, and thus consumption does not change. Numerical simulations show that small transactions costs can make consumption changes occur very infrequently. Further, the effect of consumption transactions costs on the demand for risky assets is substantial.

General Equilibrium Pricing of Options on the Market Portfolio with Discontinuous Returns

Abstract: When the price process for a long-lived asset is of a mixed jump-diffusion type, pricing of options on that asset by arbitrage is not possible if trading is allowed only in the underlaying asset and a risk-less bond. Using a general equilibrium framework, we derive and analyze option prices when the underlying asset is the market portfolio with discontinuous returns. The premium for the risk of jumps and the diffusion risks forms a significant part of the prices of the options. In this economy, an attempted replication of call and put options by the Black-Scholes type of trading strategies may require substantial infusion of funds when jumps occur. We study the cost and risk implications of such dynamic hedging plans. Article published by Oxford University Press on behalf of the Society for Financial Studies in its journal, The Review of Financial Studies.

Heteroskedasticity in Stock Returns

Abstract: We use predictions of aggregate stock return variances from daily data to estimate timevarying monthly variances for size-ranked portfolios. We propose and estimate a single factor model of heteroskedasticity for portfolio returns. This model implies time-varying betas. Implications of heteroskedasticity and time-varying betas for tests of the capital asset pricing model (CAPM) are then documented. Accounting for heteroskedasticity increases the evidence that risk-adjusted returns are related to firm size. We also estimate a constant correlation model. Portfolio volatilities predicted by this model are similar to those predicted by more complex multivariate generalized-autoregressiveconditional-heteroskedasticity (GARCH) procedures. MANY RESEARCHERS HAVE NOTED that the variance of aggregate stock returns changes over time. For example, French, Schwert, and Stambaugh (1987) use daily returns to the Standard & Poor's (S&P) composite portfolio to estimate monthly volatility from 1928 to 1984. They estimate that the standard deviation of aggregate monthly returns was about four times larger in the 1929-1933 period than in the 1953-1970 period. This paper (i) investigates the relation between aggregate volatility and the variance of monthly returns to disaggregated portfolios of stocks and (ii) examines the effect of portfolio heteroskedasticity on some common empirical tests in finance. We start with a model which implies that the conditional covariance is a quadratic function of the conditional market standard deviation,

Mean Reversion in Equilibrium Asset Prices

Abstract: This paper demonstrates that negative serial correlation in long-horizon stock returns is consistent with an equilibrium model of asset pricing. When investors display only a moderate desire to smooth their consumption, commonly used measures of mean reversion in stock prices calculated from historical returns data nearly always lie within a 60 percent confidence interval of the median of the Monte Carlo distributions implied by the authors equilibrium model. From this evidence, the authors conclude that the degree of serial correlation in the data could plausibly have been generated by their model. Copyright 1990 by American Economic Association.

Implications of Security Market Data for Models of Dynamic Economies

Abstract: We show how to use security market data to restrict the admissible region for means and standard deviations of intertemporal marginal rates of substitution (IMRS's) of consumers. Our approach is (i) nonparametric and applies to a rich class of models of dynamic economies; (ii) characterizes the duality between the mean-standard deviation frontier for IMRS's and the familiar mean-standard deviation frontier for asset returns; and (iii) exploits the restriction that IMRS's are positive random variables. The region provides a convenient summary of the sense in which asset market data are anomalous from the vantage point of intertemporal asset pricing theory.

Household Choices in Equilibrium

Abstract: This paper is an empirical investigation of equilibrium restrictions on household consumption and male labor supply. It exploits a simple factor structure, rationalized by two assumptions, that household allocations are Pareto optimal and that the labor market is competitive. The paper estimates household preferences, and tests how well this parsimonious factor structure represents panel data on married couples and time series data on asset returns. Most of the estimates are roughly comparable to those found in previous work; no evidence against the simple factor representation is found and the intertemporal capital asset pricing model is not rejected. Copyright 1990 by The Econometric Society.

The Variation of Economic Risk Premiums

Abstract: This paper provides an analysis of the predictable components of monthly common stock and bond portfolio returns. Most of the predictability is associated with sensitivity to economic variables in a rational asset pricing model with multiple betas. The stock market risk premium is the most important for capturing predictable variation of the stock portfolios, while the premiums associated with interest rate risks capture predictability of the bond returns. Time variation in the premium for beta risk is more important than changes in the betas.

Piecewise linear risk function and portfolio optimization

Abstract: A new portfolio optimization model using a piecewise linear risk function is proposed. This model is similar to, but has several advantages over the classical Markowitz's quadratic risk model. First, it is much easier to generate an optimal portfolio since the problem to be solved is a linear program instead of a quadratic program. Second, integer constraints associated with real transaction can be incorporated without making the problem intractable. Third, it enables us to distinguish two distributions with the same first and second moment but with different third moment. Fourth, we can generate the capital-market line and derive CAPM type equilibrium relations. We compared the piecewise linear risk model with the quadratic risk model using historical data of Tokyo Stock Market, whose results partly support the claims stated above.

Corporate mergers, stockholder diversification, and changes in systematic risk

Abstract: Strategic management literature suggests a relationship between systematic risk and the relatedness of merging firms. This is tested for a sample of 120 large mergers by controlling for the systematic risk of the target firm, correcting for possible problems of heteroskedast icity, and estimating shifts in risk over daily as well as monthly time horizons. Finally, the infiuence of leverage is considered. The findings highlight a performance distinction between corporate diversification and stockholder diversification in instances of related and unrelated mergers.

Disentangling the Coefficient of Relative Risk Aversion from the Elasticity of Intertemporal Substitution: An Irrelevance Result

Abstract: For homothetic time and state separable preferences, the coefficient of relative risk aversion (CRRA) is equal to the reciprocal of the elasticity of intertemporal substitution (EIS). This paper shows that, when the growth rate of consumption is i.i.d., asset pricing models based upon preferences in which the CRRA and the EIS are no longer linked do not have more explanatory power. Further, in these stochastic environments, estimates of the CRRA in the standard preferences are measures of the true CRRA and not the EIS. These results are fairly accurate descriptions of economies calibrated using United States annual data. IN THE LAST DECADE, following the work of Lucas (1978), many researchers have studied intertemporal general equilibrium asset pricing models. Typically, their analyses assume that assets can be priced using the Euler equations of an individual agent maximizing

Security markets : stochastic models

Abstract: Static Market Concepts: The Geometry of Choices and Prices. Preferences. Market Equilibrium. First Probability Concepts. Expected Utility. Special Choice Spaces. Portfolios. Optimization Principles. Second Probability Concepts. Risk Aversion. Equilibrium in Static Markets under Uncertainty. Stochastic Economies: Event Tree Economies. A Dynamic Theory of the Firm. Stochastic Processes. Stochastic Integrals and Gains from Security Trade. Stochastic Equilibria. Transformations to Martingale Gains From Trade. Discrete-Time Asset Pricing: Markov Processes and Markov Asset Valuation. Discrete-Time Markov Control. Discrete-Time Equilibrium Pricing. Continuous-Time Asset Pricing: An Overview of the Ito Calculus. The Black--Scholes Model of Security Valuation. An Introduction to the Control of Ito Processes. Consumption and Portfolio Demand with I.I.D. Returns. Continuous-Time Equilibrium Asset Pricing. Bibliography. Index. Glossary.

The Effects of Shifts in a Return Distribution on Optimal Portfolios

Abstract: When the distribution of the returns of a risky asset undergoes a stochastically dominating shift, a risk-averse investor may not necessarily increase the investment in that asset. This paper provides restrictions on the investor's utility function that are necessary and sufficient for a dominating shift to bring about no decrease in the investment in the respective asset if there are two risky assets in the portfolio. These conditions are also necessary if there are n > 2 assets, and are necessary and sufficient if the utility function exhibits constant absolute risk aversion. Copyright 1990 by Economics Department of the University of Pennsylvania and the Osaka University Institute of Social and Economic Research Association.

The Attributes, Behavior, and Performance of U.S. Mutual Funds

Abstract: This article examines the risk and return characteristics of U.S. mutual funds. We employ an equilibrium version of the Arbitrage Pricing Theory (APT) and a principal-components-based statistical technique to identify performance benchmarks. We also consider the Capital Asset Pricing Model (CAPM) as an alternative. We implement a procedure for overcoming the rotational indeterminacy of factor models. This procedure is a hybrid of statistical factor estimation and prespecification of factors. We estimate measures of timing ability for the CAPM and extend it to the APT. We find that this timing test is misspecified due to noninformation-based changes in mutual fund betas. We develop a modification of the timing measure that, under certain conditions, distinguishes true timing ability from noninformation-based beta changes.

Are the Latent Variables in Time‐Varying Expected Returns Compensation for Consumption Risk?

Abstract: Multibeta asset pricing models are examined using proxies for economic state variables in a framework which exploits time-varying expected returns to estimate conditional betas. Examples include multiple consumption-beta models and models where asset returns proxy for the state variables. When the state variables are not specified, the tests indicate two or three time-varying expected risk premiums in the sample of quarterly asset returns. Conditional betas relative to consumption generate less striking evidence against the model than betas relative to asset returns, but both the consumption and the market variables fail to proxy for the state variables.

Equilibrium Exchange Rate Hedging

Abstract: We assume a world like the one that gives the capital asset pricing model, but with many goods and many countries. We assume that investors in a given country have homothetic utility functions with the same weights, and a currency that has a sure endof-period value using a price index with those weights. Siegel's paradox (derived from Jensen's inequality) makes investors want a positive amount of exchange risk. When average risk tolerance is the same across countries, every investor will hold the same mix of market risk (through the world market portfolio of all assets) and exchange risk (in a diversified basket of foreign currencies). In fact, the ratio of exchange risk to market risk is equal to the average investor's risk tolerance. We can write the ratio of exchange risk to market risk (and the fraction of the market's exchange risk that investors hedge) as depending on an average of world market risk premia, an average of world market volatilities, and an average of exchange rate volatilities. The weights in these averages are the same as the weights of the different countries in the currency basket. Given these averages, the ratio (and the fraction hedged) will not depend directly on exchange rate means or covariances. In equilibrium, we can use the ratio of exchange risk to market risk to measure average risk tolerance: in this model, risk tolerance is observable.