Production-Based Measures of Risk for Asset Pricing

Abstract:     
A stochastic discount factor for asset returns is recovered from equilibrium marginal rates of transformation of output across states of nature, inferred from the producers' first order conditions. The marginal rate of transformation implies a novel macro-factor asset pricing model that does a reasonable job explaining the cross section of stock returns with plausible parameter values. Using a flexible representation of the firms' production technology, the producers' ability to transform output across states of nature is estimated to be high, in contrast with what is typically assumed in standard aggregate representations of the firms' production technology.

Keywords: Production-Based Asset Pricing, Macro Factor, Cross-Sectional Asset Pricing, Size Premium, Value Premium, Equity Premium

JEL Classifications: E23, E44, G12

Working Paper Series