|
on Utility Models and Prospect Theory |
| By: | Jianying Qiu (Department of Economics, University of Innsbruck); Eva-Maria Steiger (Strategic Interaction Group, Max Planck Institute of Economics, Jena) |
| Abstract: | Cumulative Prospect Theory (PT) introduced the weighting of probabilities as an additional component to capture risk attitudes. However, this addition would be a less significant challenge to expected utility theory (EU) if utility curvature and probability weighting showed strong positive correlation. In that case the utility curvature in EU alone, while not properly describing risky behavior in general, would still capture most of the variance of individual risk aversion. This study provides experimental evidence that such a strong and positive correlation does not exist. Although most individuals exhibit concave utility and convex probability weighting, the two components show no strong positive correlation. |
| Keywords: | risk attitudes, cumulative prospect theory, experimental study |
| JEL: | C91 D81 |
| Date: | 2010–08–24 |
| URL: | http://d.repec.org/n?u=RePEc:jrp:jrpwrp:2010-053&r=upt |
| By: | George M. Constantinides; Michal Czerwonko; Jens Carsten Jackwerth; Stylianos Perrakis |
| Abstract: | American options on the S&P 500 index futures that violate the stochastic dominance bounds of Constantinides and Perrakis (2007) from 1983 to 2006 are identified as potentially profitable trades. Call bid prices more frequently violate their upper bound than put bid prices do, while violations of the lower bounds by ask prices are infrequent. In out of sample tests of stochastic dominance, the writing of options that violate the upper bound increases the expected utility of any risk averse investor holding the market and cash, net of transaction costs and bid ask spreads. The results are economically significant and robust. |
| JEL: | D53 G11 G13 |
| Date: | 2010–08 |
| URL: | http://d.repec.org/n?u=RePEc:nbr:nberwo:16302&r=upt |
| By: | Jessica A. Wachter; Motohiro Yogo |
| Abstract: | We develop a life-cycle consumption and portfolio choice model in which households have nonhomothetic utility over two types of goods, basic and luxury. We calibrate the model to match the cross-sectional and life-cycle variation in the basic expenditure share in the Consumer Expenditure Survey. The model explains the degree to which the portfolio share in risky assets rises in wealth in the cross-section of households in the Survey of Consumer Finances. For a given household, the portfolio share can fall in response to an increase in wealth, even though the model implies decreasing relative risk aversion. |
| JEL: | D11 D12 G11 |
| Date: | 2010–08 |
| URL: | http://d.repec.org/n?u=RePEc:nbr:nberwo:16316&r=upt |
| By: | Christian Bach (School of Economics and Management and CREATES); Stig Vinther Møller (Finance Research Group, Aarhus School of Business and CREATES) |
| Abstract: | We calibrate and estimate a consumption-based asset pricing model with habit formation using limited participation consumption data. Based on survey data of a representative sample of American households, we distinguish between assetholder and non-assetholder consumption, as well as the standard aggregate consumption series commonly used in the CCAPM literature. We show that assetholder consumption outperforms non-assetholder and aggregate consumption data in explaining bond returns, bond yields, and the volatility of bond yields. We further show that the high volatility of assetholder consumption enables the model to explain the equity premium puzzle and the risk-free rate puzzle simultaneously for a reasonable value of relative risk aversion. |
| Keywords: | CCAPM, Limited participation consumption data, Habit formation, Real term structure, Risk premium, GMM estimation |
| JEL: | C32 G12 |
| Date: | 2010–06–16 |
| URL: | http://d.repec.org/n?u=RePEc:aah:create:2010-46&r=upt |
| By: | Christian D. Dick (Centre for European Economic Research (ZEW) Mannheim); Maik Schmeling (Department of Economics, Leibniz Universität Hannover); Andreas Schrimpf (Aarhus University and CREATES) |
| Abstract: | Based on individual expectations from the Survey of Professional Forecasters, we construct a realtime proxy for expected term premium changes on long-term bonds. We empirically investigate the relation of these bond term premium expectations with expectations about key macroeconomic variables as well as aggregate macroeconomic uncertainty at the level of individual forecasters. We find that expected term premia are (i) time-varying and reasonably persistent, (ii) strongly related to expectations about future output growth, and (iii) positively affected by uncertainty about future output growth and in ation rates. Expectations about real macroeconomic variables seem to matter more than expectations about nominal factors. Additional findings on term structure factors suggest that the level and slope factor capture information related to uncertainty about real and nominal macroeconomic prospects, and that curvature is related to subjective term premium expectations themselves. Finally, an aggregate measure of forecasters' term premium expectations has predictive power for bond excess returns over horizons of up to one year. |
| Keywords: | Bond Yields, Expectations Hypothesis, Time-varying Risk Premia, Term Premia, Aggregate Uncertainty |
| JEL: | E43 E44 G12 |
| Date: | 2010–08–27 |
| URL: | http://d.repec.org/n?u=RePEc:aah:create:2010-49&r=upt |
| By: | Stefano Eusepi; Bruce Preston |
| Abstract: | This paper develops a model of policy regime uncertainty and its consequences for stabilizing expectations. Because of learning dynamics, uncertainty about monetary and scal policy is shown to restrict, relative to a rational expectations analysis, the set of policies consistent with macroeconomic stability. Anchoring expectations by communicat- ing about monetary and scal policy enlarges the set of policies consistent with stability. However, absent anchored scal expectations, the advantages from anchoring monetary expectations are smaller the larger is the average level of indebtedness. Finally, even when expectations are stabilized in the long run, the higher are average debt levels the more persistent will be the e¤ects of disturbances out of rational expectations equilibrium. |
| JEL: | E52 D83 D84 |
| Date: | 2010–07 |
| URL: | http://d.repec.org/n?u=RePEc:acb:camaaa:2010-20&r=upt |