Generalized Disappointment Aversion, Long-Run Volatility Risk and Asset Prices
Review Review of Financial Studies, January 2011, 24, 82-122
49 Pages Posted: 19 Feb 2009 Last revised: 13 Dec 2013
Date Written: June 2010
We propose an asset pricing model with generalized disappointment aversion preferences and long-run volatility risk. With Markov switching fundamentals, we derive closed-form solutions for all returns moments and predictability regressions. The model produces first and second moments of price-dividend ratios and asset returns as well as return predictability patterns in line with the data. Compared to Bansal and Yaron (2004), we generate (i) more predictability of excess returns by price-dividend ratios; (ii) less predictability of consumption growth rates by price-dividend ratios. Our results do not depend on a value of the elasticity of intertemporal substitution greater than one.
Keywords: disappointment aversion, long-run risk, equity premium, asset returns, predictability, equilibrium Asset Pricing, risk-free rate puzzle
JEL Classification: G1, G12, G11, C1, C5
Suggested Citation: Suggested Citation