Asset Pricing Based on S-Shaped Consumption Utility

76 Pages Posted: 13 Jan 2021 Last revised: 2 Aug 2021

See all articles by Gaosheng Ju

Gaosheng Ju

China Center for Economic Studies, School of Economics, Fudan University

Qi Li

Texas A&M University

Date Written: December 3, 2020

Abstract

This paper shows that consumption-based asset pricing puzzles arise from using globally concave-shaped consumption utility. We empirically find that asset returns correlate negatively with many individuals' low-quantile consumption growth. This finding challenges most mainstream models and supports an asset pricing model based on an S-shaped consumption utility. This new model explains both the low covariance between consumption growth and stock returns and a high equity premium. Moreover, this model shows that applying globally concave-shaped consumption utility mistakenly leads to a positive correlation between risky returns and stochastic discount factors of many individuals, a root for many pricing puzzles.

Keywords: Asset Pricing, Micro Consumption, S-Shaped Consumption Utility.

JEL Classification: G12, D91, E21, D15, G41

Suggested Citation

Ju, Gaosheng and Li, Qi, Asset Pricing Based on S-Shaped Consumption Utility (December 3, 2020). Available at SSRN: https://ssrn.com/abstract=3741867 or http://dx.doi.org/10.2139/ssrn.3741867

Gaosheng Ju (Contact Author)

China Center for Economic Studies, School of Economics, Fudan University ( email )

600 GuoQuan Road
Shanghai, 200433
China

Qi Li

Texas A&M University ( email )

7101 University Avenue
STEM 318 H
Texarkana, TX 75503
United States

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