Empirical Asset Pricing with Nonlinear Risk Premia

30 Pages Posted: 1 Nov 2009 Last revised: 2 Apr 2013

See all articles by Aleksandar Mijatovic

Aleksandar Mijatovic

Imperial College London

Paul Schneider

University of Lugano - Institute of Finance; Swiss Finance Institute

Date Written: April 2, 2013


In this paper we introduce a simple continuous-time asset pricing framework, based on general multi-dimensional diffusion processes, that combines semi-analytic pricing with a nonlinear specification for the market price of risk. Our framework guarantees existence of weak solutions of the nonlinear SDEs under the physical measure, thus allowing to work with nonlinear models for the real world dynamics not considered in the literature so far. It emerges that the additional flexibility in the time series modelling is econometrically relevant: a nonlinear stochastic volatility diffusion model for the joint time series of the S&P 100 and the VXO implied volatility index data shows superior forecasting power over the standard specifications for implied and realized variance forecasting.

Keywords: risk premia, diffusion processes, forecasting

JEL Classification: C51, C61, C63

Suggested Citation

Mijatovic, Aleksandar and Schneider, Paul Georg, Empirical Asset Pricing with Nonlinear Risk Premia (April 2, 2013). Available at SSRN: https://ssrn.com/abstract=1498105 or http://dx.doi.org/10.2139/ssrn.1498105

Aleksandar Mijatovic

Imperial College London ( email )

Department of Mathematics
180 Queen's Gate
London, SW7 2AZ
United Kingdom

HOME PAGE: http://www3.imperial.ac.uk/people/a.mijatovic

Paul Georg Schneider (Contact Author)

University of Lugano - Institute of Finance ( email )

Via Buffi 13
CH-6900 Lugano

Swiss Finance Institute ( email )

c/o University of Geneva
40, Bd du Pont-d'Arve
CH-1211 Geneva 4

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