Abstract
A representative investor confronts two levels of model uncertainty. The investor has a set of well defined parametric “structured models” but does not know which of them is best. The investor also suspects that all of the structured models are misspecified. These uncertainties about probability distributions of risks give rise to components of equilibrium prices that differ from the well understood risk prices widely used in asset pricing theory. A quantitative example highlights a representative investor’s uncertainties about the size and persistence of macroeconomic growth rates. Our model puts nonlinearities into marginal valuations that induce time variations in market prices of uncertainty. These arise because the representative investor especially fears high persistence of low growth rate states and low persistence of high growth rate states.
Talk to us
Join us for a 30 min session where you can share your feedback and ask us any queries you have
Disclaimer: All third-party content on this website/platform is and will remain the property of their respective owners and is provided on "as is" basis without any warranties, express or implied. Use of third-party content does not indicate any affiliation, sponsorship with or endorsement by them. Any references to third-party content is to identify the corresponding services and shall be considered fair use under The CopyrightLaw.