Model-Free International Stochastic Discount Factors

42 Pages Posted: 16 Nov 2017 Last revised: 21 Jun 2019

See all articles by Mirela Sandulescu

Mirela Sandulescu

University of Michigan, Ross School of Business

Fabio Trojani

Swiss Finance Institute; University of Geneva

Andrea Vedolin

Boston University - Department of Finance & Economics

Multiple version iconThere are 2 versions of this paper

Date Written: June 10, 2019

Abstract

We provide a theoretical framework to uncover in a model-free way the relationship between international stochastic discount factors (SDFs), stochastic wedges, and financial market structures. Exchange rates are in general different from the ratio of international SDFs in incomplete markets, as captured by a stochastic wedge. We theoretically show that this wedge can be zero in incomplete and integrated markets. Market segmentation breaks the strong link between exchange rates and international SDFs, which helps address salient features of international asset returns, while keeping the volatility and cross-country correlation of SDFs at moderate levels.

Keywords: stochastic discount factor, exchange rates, market segmentation, financial intermediaries

JEL Classification: F31, G12

Suggested Citation

Sandulescu, Mirela and Trojani, Fabio and Vedolin, Andrea, Model-Free International Stochastic Discount Factors (June 10, 2019). Swiss Finance Institute Research Paper No. 18-18, Available at SSRN: https://ssrn.com/abstract=3070739 or http://dx.doi.org/10.2139/ssrn.3070739

Mirela Sandulescu

University of Michigan, Ross School of Business ( email )

701 Tappan Street
Ann Arbor, MI MI 48109
United States

Fabio Trojani

Swiss Finance Institute ( email )

c/o University of Geneva
40, Bd du Pont-d'Arve
CH-1211 Geneva 4
Switzerland

University of Geneva ( email )

Geneva, Geneva
Switzerland

Andrea Vedolin (Contact Author)

Boston University - Department of Finance & Economics ( email )

595 Commonwealth Avenue
Boston, MA 02215
United States

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