Measuring the Risk-Return Tradeoff with Time-Varying Conditional Covariances

58 Pages Posted: 2 Jul 2014

See all articles by Esben Hedegaard

Esben Hedegaard

Arizona State University (ASU) - W.P. Carey School of Business

Robert J. Hodrick

Columbia Business School - Finance and Economics; National Bureau of Economic Research (NBER)

Date Written: June 8, 2014

Abstract

We examine the prediction of Merton’s intertemporal CAPM that time varying risk premiums arise from the conditional covariances of returns on assets with the return on the market and other state variables. We find a positive and significant price of risk for the covariance with the market return that is driven by the time series variation in the conditional covariances, and the risk-premium on the market remains positive and significant after controlling for additional state variables. Our method estimates the risk-return tradeoff in the ICAPM using multiple portfolios as test assets.

Suggested Citation

Hedegaard, Esben and Hodrick, Robert J., Measuring the Risk-Return Tradeoff with Time-Varying Conditional Covariances (June 8, 2014). Netspar Discussion Paper No. 06/2014-022. Available at SSRN: https://ssrn.com/abstract=2460805 or http://dx.doi.org/10.2139/ssrn.2460805

Esben Hedegaard (Contact Author)

Arizona State University (ASU) - W.P. Carey School of Business ( email )

Tempe, AZ 85287-3706
United States

Robert J. Hodrick

Columbia Business School - Finance and Economics ( email )

3022 Broadway
New York, NY 10027
United States

National Bureau of Economic Research (NBER)

365 Fifth Avenue, 5th Floor
New York, NY 10016-4309
United States

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