Ambiguity, Learning, and Asset Returns

35 Pages Posted: 26 Sep 2007 Last revised: 29 Dec 2009

See all articles by Nengjiu Ju

Nengjiu Ju

Shanghai Jiao Tong University (SJTU) - Shanghai Advanced Institute of Finance (SAIF)

Jianjun Miao

Boston University - Department of Economics

Date Written: April 21, 2009

Abstract

We propose a novel generalized recursive smooth ambiguity model which allows a three-way separation among risk aversion, ambiguity aversion, and intertemporal substitution. We apply this utility to a consumption-based asset pricing model in which consumption and dividends follow hidden Markov regime-switching processes. Our calibrated model can match the mean equity premium, the mean riskfree rate, and the volatility of the equity premium observed in the data. In addition, our model can generate a variety of dynamic asset pricing phenomena, including the procyclical variation of price-dividend ratios, the countercyclical variation of equity premia and equity volatility, and the mean reversion of excess returns. The key intuition is that an ambiguity averse agent behaves pessimistically by attaching more weight to the pricing kernel in bad times when his continuation values are low.

Keywords: ambiguity aversion, learning, pessimism, asset pricing puzzles

JEL Classification: G12, D81, D83

Suggested Citation

Ju, Nengjiu and Miao, Jianjun, Ambiguity, Learning, and Asset Returns (April 21, 2009). AFA 2009 San Francisco Meetings Paper, Available at SSRN: https://ssrn.com/abstract=1017034 or http://dx.doi.org/10.2139/ssrn.1017034

Nengjiu Ju

Shanghai Jiao Tong University (SJTU) - Shanghai Advanced Institute of Finance (SAIF) ( email )

Shanghai Jiao Tong University
211 West Huaihai Road
Shanghai, 200030
China

Jianjun Miao (Contact Author)

Boston University - Department of Economics ( email )

270 Bay State Road
Boston, MA 02215
United States
617-353-6675 (Phone)

HOME PAGE: http://people.bu.edu/miaoj

Do you have a job opening that you would like to promote on SSRN?

Paper statistics

Downloads
674
Abstract Views
6,698
Rank
74,644
PlumX Metrics