Charles A. Dice Center Working Paper No. 2011-11
41 Pages Posted: 21 Jun 2011 Last revised: 18 Feb 2012
Date Written: December 20, 2011
In this paper, we develop lower bounds on the variance of the permanent component and the transitory component, and on the variance of the ratio of the permanent to the transitory components of SDFs. Exactly solved eigenfunction problems are then used to study the empirical attributes of asset pricing models that incorporate long-run risk, external habit persistence, and rare disasters. Specific quantitative implications are developed for the variance of the permanent and the transitory components, the return behavior of the long-term bond, and the comovement between the transitory and the permanent components of SDFs.
Keywords: Stochastic discount factors, permanent component, transitory component, variance bounds, asset pricing models, eigenfunction problems
JEL Classification: G11, G12, G13, C5, D24, D34
Suggested Citation: Suggested Citation
Bakshi, Gurdip and Chabi-Yo, Fousseni, Variance Bounds on the Permanent and Transitory Components of Stochastic Discount Factors (December 20, 2011). Journal of Financial Economics (JFE), Forthcoming; Charles A. Dice Center Working Paper No. 2011-11; Fisher College of Business Working Paper No. 2011-03-011. Available at SSRN: https://ssrn.com/abstract=1868232 or http://dx.doi.org/10.2139/ssrn.1868232