Pricing Intertemporal Risk when Investment Opportunities Are Unobservable

79 Pages Posted: 23 Sep 2010 Last revised: 27 May 2018

See all articles by Scott Cederburg

Scott Cederburg

University of Arizona - Department of Finance

Date Written: May 21, 2018

Abstract

The Intertemporal Capital Asset Pricing Model (ICAPM) predicts that an unobservable factor capturing changes in expected market returns should be priced in the cross section. My Bayesian framework accounts for uncertainty in the intertemporal risk factor and gauges the effects of prior information about investment opportunities on model inferences. Whereas an uninformative-prior specification produces weak evidence that intertemporal risk is priced, incorporating prior information about market return predictability generates a large space of ex ante reasonable priors in which the estimated intertemporal risk factor is positively priced. Overall, the cross-sectional tests reject the CAPM and indicate support for the ICAPM.

Keywords: ICAPM, Intertemporal risk, Latent factor, Informative priors

JEL Classification: C11, G10, G12

Suggested Citation

Cederburg, Scott, Pricing Intertemporal Risk when Investment Opportunities Are Unobservable (May 21, 2018). Available at SSRN: https://ssrn.com/abstract=1680894 or http://dx.doi.org/10.2139/ssrn.1680894

Scott Cederburg (Contact Author)

University of Arizona - Department of Finance ( email )

McClelland Hall
P.O. Box 210108
Tucson, AZ 85721-0108
United States

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