Asset Return Dynamics under Bad Environment-Good Environment Fundamentals

50 Pages Posted: 31 Jul 2009 Last revised: 28 Jun 2011

Geert Bekaert

Columbia Business School - Finance and Economics; National Bureau of Economic Research (NBER)

Eric Engstrom

U.S. Board of Governors of the Federal Reserve System - Division of Research and Statistics, Capital Markets

Multiple version iconThere are 4 versions of this paper

Date Written: June 21, 2010

Abstract

We introduce a "bad environment-good environment" technology for consumption growth in a consumption-based asset pricing model. Using the preference structure from Campbell and Cochrane (1999), the model generates realistic non-Gaussian features of fundamentals while still permitting closed-form solutions for asset prices. The model not only fits standard salient asset prices features including means and volatilities for equity returns and risk free rates, but also generates realistic features of the "risk-neutral" conditional densitiy of equity returns, including the variance premium.

Keywords: Equity premium, variance premium, Countercyclical risk aversion, Economic Uncertainty, Dividend yield, Return predictability

JEL Classification: G12, G15, E44

Suggested Citation

Bekaert, Geert and Engstrom, Eric, Asset Return Dynamics under Bad Environment-Good Environment Fundamentals (June 21, 2010). Available at SSRN: https://ssrn.com/abstract=1440226 or http://dx.doi.org/10.2139/ssrn.1440226

Geert Bekaert

Columbia Business School - Finance and Economics ( email )

3022 Broadway
New York, NY 10027
United States

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Eric C. Engstrom (Contact Author)

U.S. Board of Governors of the Federal Reserve System - Division of Research and Statistics, Capital Markets ( email )

20th & C. St., N.W.
Washington, DC 20551
United States
202-452-3044 (Phone)

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