Risk, Uncertainty and Asset Prices

56 Pages Posted: 8 Aug 2005  

Geert Bekaert

Columbia Business School - Finance and Economics; National Bureau of Economic Research (NBER)

Eric Engstrom

U.S. Board of Governors of the Federal Reserve System - Division of Research and Statistics, Capital Markets

Yuhang Xing

Rice University

Multiple version iconThere are 4 versions of this paper

Date Written: February 2008

Abstract

We identify the relative importance of changes in the conditional variance of fundamentals (which we call uncertainty) and changes in risk aversion in the determination of the term structure, equity prices and risk premiums. Theoretically, we introduce persistent time-varying uncertainty about the fundamentals in an external habit model. The model matches the dynamics of dividend and consumption growth, including their volatility dynamics and many salient asset market phenomena. While the variation in price-dividend ratios and the equity risk premium is primarily driven by risk aversion, uncertainty plays a large role in the term structure and is the driver of counter-cyclical volatility of asset returns.

Keywords: Equity Premium, Economic Uncertainty, Stochastic Risk Aversion, Time Variation in Risk and Return, Excess Volatility, External Habit, Term Structure, Heteroskedasticity

JEL Classification: G12, G15, E44

Suggested Citation

Bekaert, Geert and Engstrom, Eric and Xing, Yuhang, Risk, Uncertainty and Asset Prices (February 2008). Finance and Economics Discussion Series 2005-40; Finance and Economics Discussion Series 2005-40. Available at SSRN: https://ssrn.com/abstract=770726

Geert Bekaert (Contact Author)

Columbia Business School - Finance and Economics ( email )

3022 Broadway
New York, NY 10027
United States

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Eric C. Engstrom

U.S. Board of Governors of the Federal Reserve System - Division of Research and Statistics, Capital Markets ( email )

20th & C. St., N.W.
Washington, DC 20551
United States
202-452-3044 (Phone)

Yuhang Xing

Rice University ( email )

6100 South Main Street
Houston, TX 7705-1892
United States

Paper statistics

Downloads
444
Rank
43,483
Abstract Views
2,003