Leisure, Labor Income, and Equity Risk Premia

Abstract

We derive a simple two-factor consumption-based asset pricing model, which includes hourly wage growth as a risk factor (CW-CAPM). Wage growth earns a negative price of risk---a higher wage leads to a decline in leisure demand and a rise in the marginal utility of consumption. The CW-CAPM explains more than 40% of the joint cross-sectional dispersion in risk premia associated with 15 major CAPM anomalies. The wage growth risk price estimates are significantly negative, while the implied preference parameter (leisure share) estimates are economically plausible. The model compares favorably with popular linear factor models from the asset pricing literature.

Keywords: Asset pricing; Consumption-based asset pricing model; Macro asset pricing models; Leisure; Wage growth; Cross-section of stock returns; Stock market anomalies

JEL Classification: E21, E44, G11, G12