Firm Heterogeneity in Production-Based Asset Pricing: The Role of Habit Sensitivity and Lumpy Investment

69 Pages Posted: 8 May 2020 Last revised: 13 Apr 2021

See all articles by Zhiting Wu

Zhiting Wu

School of Economics and Finance, University of St Andrews

Date Written: April 19, 2020

Abstract

I study the interaction between lumpy investment and asset prices in both time-series and cross-section. To this end, I work with a variant of habit sensitivity function introduced in Campbell & Cochrane (1999). The model produces 100% equity volatility of data by generating volatile marginal utility under the assumption of non-convex adjustment costs. Second, the model reproduces nearly 100% equity premiums of data because it assigns large weights on precautionary savings and constrained firms, respectively. Furthermore, the model can rationalise considerable size premiums as small firms absorb more productivity risks. Finally, the model matches key macroeconomic moments and the cross-sectional investment rate.

Keywords: Habit Formation, Lumpy Investment, Firm Heterogeneity, Production-Based Asset Pricing, Size Premiums

JEL Classification: E22, E3, G1

Suggested Citation

Wu, Zhiting, Firm Heterogeneity in Production-Based Asset Pricing: The Role of Habit Sensitivity and Lumpy Investment (April 19, 2020). Available at SSRN: https://ssrn.com/abstract=3580159 or http://dx.doi.org/10.2139/ssrn.3580159

Zhiting Wu (Contact Author)

School of Economics and Finance, University of St Andrews ( email )

Castle Cliff
St Andrews
St Andrews, KY16 9AR
United Kingdom

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