Asset Pricing without Garbage
63 Pages Posted: 17 Sep 2013 Last revised: 19 Jul 2016
Date Written: February 10, 2016
This paper provides an explanation for why garbage implies a much lower relative risk aversion in the consumption-based asset pricing model than National Income and Product Accounts (NIPA) consumption expenditure: unlike garbage, NIPA consumption is filtered to mitigate measurement error. I apply a simple model of the filtering process that allows one to undo the filtering inherent in NIPA consumption. “Unfiltered NIPA consumption” well explains the equity premium and is priced in the cross-section of stock returns. I discuss the likely properties of true consumption (i.e., without measurement error and filtering) and quantify implications for habit and long-run risk models.
The appendices for this paper are available at the following URL: http://ssrn.com/abstract=2689809
Keywords: consumption-based asset pricing, equity premium, relative risk aversion, cross-section of stock returns, consumption volatility, filtering
JEL Classification: G12
Suggested Citation: Suggested Citation