Financial Intermediaries and the Cross-Section of Asset Returns
Northwestern University - Kellogg School of Management - Department of Finance
Federal Reserve Bank of New York
affiliation not provided to SSRN
March 14, 2011
AFA 2012 Chicago Meetings Paper
Financial intermediaries trade frequently in many markets using sophisticated models. Their marginal value of wealth should therefore provide a more informative stochastic discount factor (SDF) than that of a representative consumer. Guided by theory, we use shocks to the leverage of securities broker-dealers to construct an intermediary SDF. Intuitively, deteriorating funding conditions are associated with deleveraging and high marginal value of wealth. Our single-factor model prices size, book-to-market, momentum, and bond portfolios with an R2 of 77% and an average annual pricing error of 1% — performing as well as standard multi-factor benchmarks designed to price these assets.
Number of Pages in PDF File: 55
Keywords: cross sectional asset pricing, financial intermediation
JEL Classification: G1, G12, G21working papers series
Date posted: March 23, 2011 ; Last revised: March 28, 2012
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