STOCK RETURNS, ASYMMETRIC VOLATILITY, RISK AVERSION, AND BUSINESS CYCLE: SOME NEW EVIDENCE

Abstract

We study how three interrelated phenomena—excess stock returns and risk relation, risk aversion, and asymmetric volatility movement—change over business cycles. Using an asymmetric generalized autoregressive conditional heteroskedasticity in mean model and a Markov switching model, we find that excess stock return increases and asymmetric volatility movement is weakened during boom periods. This suggests that investors become more risk‐averse during boom periods (i.e., procyclical risk aversion), which we confirm using a calibration of a simple equilibrium model. (JEL C32, E32, G12)