Rare Events, Financial Crises, and the Cross-Section of Asset Returns

44 Pages Posted: 1 Apr 2015

Multiple version iconThere are 4 versions of this paper

Date Written: March 2015

Abstract

Similarities between the Great Depression and the Great Recession are documented with respect to the behavior of financial markets. A Great Depression regime is identified by using a Markov-switching VAR. The probability of this regime has remained close to zero for many decades, but spiked for a short period during the most recent financial crisis, the Great Recession. The Great Depression regime implies a collapse of the stock market, with small-growth stocks outperforming small-value stocks. This helps to explain the cross section of asset returns when risk is priced according to a version of the "Bad Beta, Good Beta" Intertemporal CAPM that allows for regime changes.

Keywords: financial crises, Great Depression, Great Recession, Intertemporal CAPM, Markov-switching VAR

JEL Classification: C32, G01, G12

Suggested Citation

Bianchi, Francesco, Rare Events, Financial Crises, and the Cross-Section of Asset Returns (March 2015). CEPR Discussion Paper No. DP10520, Available at SSRN: https://ssrn.com/abstract=2588423

Francesco Bianchi (Contact Author)

Duke University ( email )

100 Fuqua Drive
Durham, NC 27708-0204
United States

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