The Impact of Risk and Uncertainty on Expected Returns
Posted: 21 Mar 2006 Last revised: 18 Sep 2012
Date Written: June 22, 2009
We study asset pricing in economies featuring both risk and uncertainty. In our empirical analysis, we measure risk via return volatility and uncertainty via the degree of disagreement of professional forecasters, attributing different weights to each forecaster. We empirically model the typical risk-return trade-off and augment these models with our measure of uncertainty. We find stronger empirical evidence for an uncertainty-return trade-off than for the traditional risk-return trade-off. Finally, we investigate the performance of a two-factor model with risk and uncertainty in the cross section.
Keywords: Conditional volatility, model uncertainty, disagreement, factor models
JEL Classification: G10, G12, G17, D81
Suggested Citation: Suggested Citation