WHY DO RISK PREMIA VARY OVER TIME? A THEORETICAL INVESTIGATION UNDER HABIT FORMATION

We study the dynamics of risk premia in a model with external habit formation and highlight the significance of “recession predictability”. Although under the specification of Campbell and Cochrane, [Journal of Political Economy107, 205–251 (1999)] the equity risk premium is countercyclical because increases in risk aversion are reinforced by rising recession risks, this need not be the case more generally. We show analytically that in endowment economies procyclical recession expectations can outweigh countercyclical changes in risk aversion, generating counterfactual risk-premium behavior. However, allowing shocks or habits to be sufficiently persistent, or explicitly accounting for the impact of habits on consumption, suffices to generate countercyclical recession risks and risk premia.

Download Full-text

On the Timing and Pricing of Dividends: Comment

The American Economic Review ◽

10.1257/aer.20131416 ◽

2016 ◽

Vol 106 (10) ◽

pp. 3185-3223 ◽

Cited By ~ 17

Author(s):

Florian Schulz

Keyword(s):

Term Structure ◽

Risk Premium ◽

Risk Premia ◽

Equity Returns ◽

Equity Risk Premium ◽

Short Term ◽

Equity Risk ◽

Market Portfolio ◽

Show Evidence

I present novel empirical evidence on the term structure of the equity risk premium. In contrast to previous research that documented high discount rates for the short-term component of the market portfolio, I show evidence for an unconditionally flat term structure of equity risk premia. The tension with previous literature arises largely as a result of differential treatments of heterogeneous investment taxes, manifested in micro evidence on abnormal equity returns on ex-dividend days, and liquidity. The results not only help resolve an important recent “puzzle” but provide further important insights on the role of investment taxes in asset pricing. (JEL G11, G12, G35)

Download Full-text

Equity Risk Premium in ASEAN: Empirical Analysis on Its Puzzle and Impact of 2008 Financial Crisis

Asian Business Research ◽

10.20849/abr.v2i1.124 ◽

2017 ◽

Vol 2 (1) ◽

pp. 4

Author(s):

Katherine M. Villalobos

Keyword(s):

Financial Crisis ◽

Risk Premium ◽

Calibration Method ◽

Data Availability ◽

Potential Contribution ◽

Equity Risk Premium ◽

2008 Financial Crisis ◽

Stock Market Development ◽

Equity Risk ◽

The Impact

This paper aims to mainly investigate equity risk premium of the six major members of ASEAN countries such as Indonesia, Malaysia, Philippines, Singapore, Thailand and Vietnam which have been chosen based on their stock market development and data availability. It has focused on the two main issues of the equity risk premium such as the intriguing issue on the existence of equity premium puzzle and the analysis on the impact of the 2008 financial crisis on the trend of the equity risk premium and their potential contribution on the risk aversion's attitude of the ASEAN investors. Three methods are utilized to test this phenomenon (1) basic model consumption of Mehra and Prescott (1985) and simplified model by Ni (2006); (2) calibration (Campbell, 2003) and (3) GMM estimation (Hansen, 1982). The calibration method results suggest that the puzzle exists in Indonesia.It has determined that the puzzle seems lying on the negative covariance between the consumption growth rate and the average real stock return. After applying GMM as method of the three sub-sample analyses for before, after and excluding 2008, it shows that financial crisis didn't affect much the value of risk aversion, but it cannot deny the fact that it has profound effect on the behavior of the equity risk premium. It can also be inferred that after crisis, ASEAN investors are likely tend to become more decreasing relative risk averse and prefer to have happiness tomorrow than today.

Download Full-text

Another Look at the Equity Risk Premium Puzzle

German Economic Review ◽

10.1111/geer.12078 ◽

2015 ◽

Vol 16 (4) ◽

pp. 490-501 ◽

Cited By ~ 1

Author(s):

Günter Bamberg ◽

Sebastian Heiden

Keyword(s):

Risk Aversion ◽

Financial Markets ◽

Risk Premium ◽

Equity Premium ◽

Equity Risk Premium ◽

Economic Agents ◽

Equity Risk ◽

Pareto Tails ◽

Return Distributions ◽

Premium Puzzle

AbstractThe model of Mehra and Prescott (1985, J. Econometrics, 22, 145-161) implies that reasonable coefficients of risk-aversion of economic agents cannot explain the equity risk premium generated by financial markets. This discrepancy is hitherto regarded as a major financial puzzle. We propose an alternative model to explain the equity premium. For normally distributed returns and for returns far away from normality (but still light tailed), realistic equity risk premia do not imply puzzlingly high risk aversions. Following our approach, the ‘equity premium puzzle’ does not exist. We also consider fat-tailed return distributions and show that Pareto tails are incompatible with constant relative risk aversion.

Download Full-text

Equity risk premium: A cross country analysis on return behaviour

Ushus - Journal of Business Management ◽

10.12725/ujbm.32.4 ◽

2015 ◽

Vol 14 (3) ◽

pp. 47-57

Author(s):

Santhosh Kumar

Keyword(s):

Emerging Markets ◽

Risk Premium ◽

Central Element ◽

Global Integration ◽

Equity Risk Premium ◽

Equity Risk ◽

Ex Post ◽

Country Analysis ◽

Developed Nations ◽

The Impact

The equity risk premium has been of paramount importance in the field of finance and is still a widely utilised central element for every risk return model in corporate finance, asset pricing and other fields of economic literature. This research captures the differences in the ex-post behaviour of equity risk premium between developed and emerging markets .Further, an investigation has been made into the impact of global integration on the ERP across G7 countries and 7 emerging countries. .The analysis has shown a decline in the ERP of developed nations and an upward trend in emerging markets over the chosen sub-sample period. We found out that there exists low correlation in ERP of emerging markets in comparison with developed markets

Download Full-text

The impact of monetary policy shocks on the equity risk premium before and after the Quantitative Easing in the United Kingdom

Investment Management and Financial Innovations ◽

10.21511/imfi.13(4-1).2016.01 ◽

2016 ◽

Vol 13 (4) ◽

pp. 146-159 ◽

Cited By ~ 2

Author(s):

Sunil Poshakwale ◽

Pankaj Chandorkar

Keyword(s):

Monetary Policy ◽

Risk Premium ◽

Quantitative Easing ◽

Monetary Policy Shocks ◽

Equity Risk Premium ◽

Equity Risk ◽

Ex Post ◽

Before And After ◽

Policy Shocks ◽

The Impact

The authors investigate the impact of structural monetary policy shocks on ex-post equity risk premium (ERP) of aggregate and sectoral FTSE indices and 25 Fama-French style value-weighted portfolios. They find that monetary policy shocks negatively affect the ERP but at the sectoral level, the magnitude of the response is heterogeneous. Further, monetary policy shocks have a significant negative (positive) impact on the ERP before (after) the implementation of quantitative easing (QE). The empirical evidence provided in the paper sheds light on the equity market’s asymmetric response to the BoE’s policy before and after the monetary stimulus. Keywords: monetary policy, equity risk premium, quantitative easing, monetary policy shocks, structural vector autoregression, Bank of England, Taylor monetary policy rule, unconventional monetary policy, output gap, inflation gap, Okun’s law. JEL Classification: E5, E30, G0, G1

Download Full-text

What Explains The Equity Risk Premium In ASEAN Countries?

Journal of Applied Business Research (JABR) ◽

10.19030/jabr.v32i6.9818 ◽

2016 ◽

Vol 32 (6) ◽

pp. 1707

Author(s):

Soo-Hyun Kim ◽

Katherine Villalobos

Keyword(s):

Error Correction ◽

Risk Premium ◽

Fixed Effects ◽

Correction Term ◽

Equity Risk Premium ◽

Macroeconomic Variables ◽

Asean Member ◽

Equity Risk ◽

Long Run ◽

The Impact

This paper aims to mainly investigate the impact of the selected macroeconomic variables such as inflation (INF), gross domestic product (GDP), foreign direct investment (FDI) and stocks traded turn-over ratio (STTR) on equity risk premium (ERP) of six major ASEAN member countries such as Indonesia, Malaysia, Philippines, Singapore, Thailand and Vietnam. Applied methods are panel pooled regression and panel vector error correction model (VECM) through the latest version of Eviews9. In the former approach, among the selected macroeconomic variables, both INF and STTR significantly and positively affect the ERP. Both periods and years show to have fixed effects as dummy variables. One cointegration has been determined among macroeconomic variables and ERP suggesting a long term equilibrium association which led to employ Panel VECM. INF denotes a significant long-run relationship with ERP and the error correction term results suggest deviation of INF is a relevant factor but not the errors of liquidity as the STTR didn't show any significant impact in the model. Granger Casuality test suggests both INF and ERP do granger causes each other in the short run. Thus, inflation is a robust factor of ERP in two different methods while the STTR is not a robust as it shows different results.

Download Full-text

Equity Risk Premium in India: Comparative Estimates from Historical Returns, Dividend and Earnings Models

Journal of Emerging Market Finance ◽

10.1177/0972652717751543 ◽

2018 ◽

Vol 17 (1_suppl) ◽

pp. S136-S156

Author(s):

Manju Tripathi ◽

Smita Kashiramka ◽

P. K. Jain

Keyword(s):

Capital Market ◽

Risk Premium ◽

Growth Models ◽

Equity Risk Premium ◽

Market Returns ◽

Earnings Growth ◽

Equity Risk ◽

The Impact ◽

Historical Model ◽

Blue Chip

The article compares efficiencies of dividend and earnings growth models with historical model in predicting the unconditional expected equity risk premium (ERP) in addition to analysing the impact of recession. The exercise is undertaken employing two different Indian capital market indices, NIFTY500 and SENSEX. The study period is 20 years (1997–2016) with pre- and post-recession periods as 2001–2008 and 2009–2016, respectively. The dividend growth model emerges as the most efficient model for predicting ERP while highlighting that Indian firms follow stable dividend policy. NIFTY500 index with a wider base proves to be a superior benchmark for market returns over SENSEX comprising 30 blue-chip firms.

Download Full-text