Responsible investing: The ESG-efficient frontier

This paper presents a theory of equilibrium asset pricing that generalizes the recent work of Connor. The model extends Connor's results to more general sets of asset returns and consumer preferences, introduces production, and provides a framework for analyzing exact and approximate equilibrium asset pricing. The other major contribution of the paper is the introduction of geometric arguments that exploit the properties of induced prefer- ences over assets. This method of analyzing asset pricing provides an intuitively appealing way of analyzing equilibrium asset pricing theories. unifies several well-known asset-pricing models. This paper extends Connor's finite-asset model in a number of directions. These extensions are nontrivial, because they allow the theory to encompass asset-pricing models that were excluded by Connor's assumptions. The second major contribution of the paper is to introduce a method of argument that exploits the geometric properties of induced preferences over assets, and characterizes asset prices using these proper- ties. This technique provides an intuitively appealing way of analyzing asset pricing theories. (For a simple geometric exposition of the main ideas in this paper, see Milne (1987).) 0.2. To place this paper in the context of the literature, it is important to appreciate the development of asset-pricing models over the last two decades. The first-and perhaps the most famous-asset-pricing model is the Capital Asset Pricing Model (CAPM) developed by Sharpe (1964) and Lintner (1965). The model demonstrated a striking result: assuming (i) consumers characterize portfolios in terms of the means and variance of rates of return, (ii) there exists a risk-free asset, and (iii) asset equilibrium; then any asset's expected rate of return could be written as a linear function of the riskless interest rate, and the expected rate of return on the endowment of risky assets (the so-called market portfolio). The original CAPM result was derived from a one period model, but Merton (1973) showed that in a continuous time model where returns could be char- acterized by a diffusion process, the same mean-variance argument could be applied to obtain the CAPM formula. It was well-known that if consumers had von Neumann-Morgenstern prefer- ences, then either quadratic utility and/or multivariate normality of returns were

Asset Pricing in a Production Economy with Heterogeneous Investors

Under heterogeneous expectations, the mean–variance model of capital market equilibrium is employed to determine the effect restricting short sales has on equilibrium asset prices. Two equivalent markets differing only with respect to short sale restrictions are compared. It is shown that, in general, risky asset prices can either rise or fall due to short sale constraints. However, under a homogeneity of beliefs for the covariance matrix of future prices, short sale constraints will only increase risky asset prices.

Asset Pricing with Idiosyncratic Risk and Overlapping Generations

More than 90% of wage earners in the United States can receive pension options benefits after retirement. It is especially important to manage funds reasonably and choose the right investment after retirement. We use the capital asset pricing model (CAPM) and the Fama-French three-factor model to establish pension and non-pension investment portfolios and measure the return and risk changes of pension portfolio investments under different portfolio investments. The experimental results show that pensions are of great help to the return and Sharpe ratio of portfolio investments. With the intervention of different factors, pensions provide good and stable income support for portfolio investments. Especially under the expectations of different markets, pensions performed extremely well in portfolio investments. With the establishment of reasonable portfolio investment, we suggest that adding pensions to the portfolio investment will bring more stable investment performance.

A Temporary Equilibrium Model of Asset Pricing

I propose a consumption-based asset pricing model with disappointment aversion to investigate the link between downside consumption risk and expected returns across asset markets. I find that the disappointment model can explain 95% of the cross-sectional variation in size/book-to-market portfolios and more than 80% of the variation in the joint sample of stocks, bonds, and commodity futures. I also show that the performance of the disappointment model is comparable to that of the Fama-French three-factor specification, regardless of the sample frequency (annual, quarterly). Overall, my results indicate that disappointment aversion considerably improves the fit of consumption-based asset pricing models.Received November 27, 2014; editorial decision September 18, 2016 by Editor Stefan Nagel.

The claim that financial markets are efficient is backed by an implicit argument that misinformed "noise traders" can have little influence on asset prices in equilibrium. If noise traders' beliefs are sufficiently different from those of rational agents to significantly affect prices, then noise traders will buy high and sell low. They will then lose money relative to rational investors and even- tually be eliminated from the market.

Since Sharpe (1964) derived the CAPM, it has been the benchmark of asset pricing models and has been used to calculate the cost of equity capital and other asset pricing determinations for more than four decades. Many researchers have tried to relax the original assumptions and generalize the static CAPM. In addition, Merton (1973) and Black (1976) have generalized the static CAPM in terms of intertemporal CAPM. In this chapter, we survey the important alternative theoretical models of capital asset pricing and provide a complete review of the evolution of both static and intertemporal asset pricing models. We also discuss the interrelationships among these models and suggest several possible directions for future research. In addition, we review the asset pricing tests in terms of individual companies’ data instead of portfolio data. Our results might be used as a guideline for future theoretical and empirical research in capital asset pricing.

The paper examines equilibrium models based on Epstein–Zin preferences in a framework in which exogenous state variables follow affine jump diffusion processes. A main insight is that the equilibrium asset prices can be computed using a standard machinery of affine asset pricing theory by imposing parametric restrictions on market prices of risk, determined inside the model by preference and model parameters. An appealing characteristic of the general equilibrium setup is that the state variables have an intuitive and testable interpretation as driving the consumption and dividend dynamics. We present a detailed example where large shocks (jumps) in consumption volatility translate into negative jumps in equilibrium prices of the assets as agents demand a higher premium to compensate for higher risks. This endogenous “leverage effect,” which is purely an equilibrium outcome in the economy, leads to significant premiums for out‐of‐the‐money put options. Our model is thus able to produce an equilibrium “volatility smirk,” which realistically mimics that observed for index options.

The comparative statics on asset prices based on bull and bear market measure

This paper presents a dynamic model of consumer trading on the primary, secondary, and scrap markets for a stochastically deteriorating durable good in a stationary economy with perfect information and no transaction costs. We explicitly model the trading process by tracking each durable from its birth in the primary market, through its sequence of owners in the secondary market, until its death in the scrap market. We prove that a stationary equilibrium exists, characterize the distribution of consumer holdings of durables, and show that equilibrium asset prices are shadow prices to a particular regenerative optimal stopping problem. We show that each heterogeneous agent equilibrium is observationally equivalent to a homogeneous agent equilibrium. We derive a differential equation for equilibrium rental rates, and a functional equation which links rental rates to asset prices. These equations show precisely how the structure of durable prices and rental rates embody the functional form and population distribution of preferences, and the technological characteristics of durable goods.

This paper develops an intertemporal model of international capital market segmentation. Within the model, under various forms of segmentation/integration, the equilibrium asset prices and allocations, the risk-free interest rate, and the intertemporal consumption behavior and welfares of two countries are derived and compared. It is shown that the equilibrium interest rate is increased on integration, and that integrating markets may be significantly welfare decreasing for one of the countries. Conditions that may lead to a decrease in welfare are investigated. The conclusions as to the effects of segmentation on asset prices in the mean-variance model of the existing finance segmentation literature are also shown to break down in an intertemporal model.

Accounting for time when estimating financed greenhouse gas emissions from investment and lending portfolios

Liquidity and Asset Prices in Rational Expectations Equilibrium with Ambiguous Information