Term Structure of Risk in Expected Returns

This paper develops a methodology to test structural asset pricing models based on their implications for the multiperiod risk-return trade-off. A new measure, the term structure of risk, captures the sensitivities of multiperiod expected returns to structural shocks. The level and slope of the term structure of risk can indicate misspecification in equilibrium models. I evaluate the performance of asset pricing models with long-run risk, consumption disasters, and variance shocks. I find that only a model with multiple shocks in the variance of consumption growth is consistent with the propagation of and compensation for risk in the aggregate stock market.

Growth and returns across countries

This chapter examines the relation between long-run economic growth and returns across countries. Have countries that have experienced high GDP growth historically also experienced high stock returns? The chapter contains three main messages. First, there is no clear tendency that countries that have grown fast in the past are also countries that have delivered high stock returns in the past. Second, as in the US, stock prices have in many countries followed economic activity in the long run. Third, real interest rates relate to economic growth across countries in the long run.Another conclusion emerging from this chapter is that long-run stock returns exceed long-run rates of economic growth and long-run risk-free rates by a wide margin.

From Which Consumption-Based Asset Pricing Models Can Investors Profit? Evidence from Model-Based Priors

This article analyzes whether consumption-based asset pricing models improve the excess returns forecasts of a hypothetical investor with access to these models from 1947 onwards. The investor imposes economic constraints derived from asset pricing models as model-based priors on predictive regression parameters through a Bayesian framework. Three models are considered: habit formation, long-run risk, and prospect theory. The model-based priors generally perform better than priors that shrink the parameter estimates to the historical average model and priors that impose a positive equity premium. This analysis helps to assess the value of consumption-based asset pricing models to investors.

COVID-19 and Conflict: Major Risks and Policy Responses

The COVID-19 pandemic entails a medium- and long-run risk of heightened political conflict. In this short essay we distinguish four major consequences of COVID-19 that may fuel social tensions and political violence, namely i) spiking poverty, ii) education under stress, iii) potential for repression, and iv) reduced inter-dependence. After discussing them in turn, we will formulate policy recommendations on how to attenuate these risks.