# The Real Risk-Free Rate and the Price of Equity: What Role does Macroeconomic Uncertainty Play?

66 Pages Posted: 27 May 2012 Last revised: 29 Sep 2012

## Maxim Ulrich

Karlsruhe Institute of Technology

Date Written: September 26, 2012

### Abstract

Between 37% and 75% of quarterly variations in the U.S. aggregate logarithmic price-dividend ratio are related to economic information that is embedded in the real risk-free rate. Only one hidden factor is required to explain more than 80\% of these common variations. Surprisingly, standard measures of macroeconomic risks seem not to contain information about this unobserved common factor. As surprising, a standard measure of macroeconomic uncertainty explains more than 50\% of its variations. The revealed empirical pattern between macroeconomic uncertainty, the real risk-free rate and the price of equity is at odds with existing theoretical models. We analyze theoretically and empirically the reasons for this puzzle and derive suggestions to overcome these.

Keywords: $\alpha$-maxmin preferences, Estimating Ambiguity and Risk Attitudes, Knightian Uncertainty, Equity Pricing, Macroeconomic Risks

Suggested Citation

Ulrich, Maxim, The Real Risk-Free Rate and the Price of Equity: What Role does Macroeconomic Uncertainty Play? (September 26, 2012). Available at SSRN: https://ssrn.com/abstract=2067140 or http://dx.doi.org/10.2139/ssrn.2067140