52 Pages Posted: 30 Nov 2016 Last revised: 1 Dec 2016
Date Written: November 29, 2016
Many stylized facts of leverage, trading, and asset prices follow from a frictionless general equilibrium model that features agents’ heterogeneity in endowments and habit preferences. Our model predicts that aggregate debt increases in good times when stock prices are high, return volatility is low, and levered agents enjoy a “consumption boom.” Our model is consistent with poorer agents borrowing more and with recent evidence on intermediaries’ leverage being a priced factor of asset returns. In crisis times, levered agents strongly deleverage by “fire selling” their risky assets as asset prices drop. Yet, consistently with the data, their debt-to-wealth ratios increase because their wealth decline faster due to higher discount rates.
Suggested Citation: Suggested Citation
Santos, Tano and Veronesi, Pietro, Habits and Leverage (November 29, 2016). Fama-Miller Working Paper ; Chicago Booth Research Paper No. 16-22. Available at SSRN: https://ssrn.com/abstract=2876850 or http://dx.doi.org/10.2139/ssrn.2876850