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on Utility Models and Prospect Theory |
| By: | Grzegorz Andruszkiewicz; Dorje C. Brody |
| Abstract: | The existence of the pricing kernel is shown to imply the existence of an ambient information process that generates market filtration. This information process consists of a signal component concerning the value of the random variable X that can be interpreted as the timing of future cash demand, and an independent noise component. The conditional expectation of the signal, in particular, determines the market risk premium vector. An addition to the signal of any term that is independent of X, which generates a drift in the noise, is shown to change the drifts of price processes in the physical measure, without affecting the current asset price levels. Such a drift in the noise term can induce anomalous price dynamics, and can be seen to explain the mechanism of observed phenomena of equity premium and financial bubbles. |
| Date: | 2011–03 |
| URL: | http://d.repec.org/n?u=RePEc:arx:papers:1103.3206&r=upt |
| By: | von Gaudecker, Hans-Martin (University of Mannheim); van Soest, Arthur (Tilburg University); Wengström, Erik (University of Copenhagen) |
| Abstract: | An ever increasing number of experiments attempts to elicit risk preferences of a population of interest with the aim of calibrating parameters used in economic models. We are concerned with two types of selection effects, which may affect the external validity of standard experiments: Sampling from a narrowly defined population of students ("experimenter-induced selection") and self-selection of participants into the experiment. We find that both types of selection lead to a sample of experts: Participants perform significantly better than the general population, in the sense of fewer violations of revealed preference conditions. Self-selection within a broad population does not seem to matter for average preferences. In contrast, sampling from a student population leads to lower estimates of average risk aversion and loss aversion parameters. Furthermore, it dramatically reduces the amount of heterogeneity in all parameters. |
| Keywords: | risk aversion, loss aversion, internet surveys, laboratory experiments |
| JEL: | C90 D81 |
| Date: | 2011–03 |
| URL: | http://d.repec.org/n?u=RePEc:iza:izadps:dp5575&r=upt |
| By: | David Dillenberger; Kareen Rozen |
| Date: | 2011–03–20 |
| URL: | http://d.repec.org/n?u=RePEc:cla:levarc:786969000000000066&r=upt |
| By: | Stephen Bazen (GREQAM - Groupement de Recherche en Économie Quantitative d'Aix-Marseille - Université de la Méditerranée - Aix-Marseille II - Université Paul Cézanne - Aix-Marseille III - Ecole des Hautes Etudes en Sciences Sociales (EHESS) - CNRS : UMR6579); Patrick Moyes (GREThA - Groupe de Recherche en Economie Théorique et Appliquée - CNRS : UMR5113 - Université Montesquieu - Bordeaux IV, CES - Centre d'économie de la Sorbonne - CNRS : UMR8174 - Université Panthéon-Sorbonne - Paris I) |
| Abstract: | Stochastic dominance has typically been used with a special emphasis on risk and inequality reduction something captured by the concavity of the utility function in the expected utility model. We claim that the applicability of the stochastic dominance approach goes far beyond risk and inequality measurement provided suitable adpations be made. We apply in the paper the stochastic dominance approach to the measurment of elitism which may be considered the opposite of egalitarianism. While the usual stochastic dominance quasi-orderings attach more value to more equal and more efficient distributions, our criteria ensure that the more unequal and the more the efficient the distribution, the higher it is ranked. two instances are provided by (i) comparisons of scientific performance across institutions like universities or departments and (ii) comparisons of affluence as opposed to poverty across countries. |
| Keywords: | Decumulative distribution functions; Stochastic dominance; Regressive transfers; Elitism; Scientific Performance; Affluence |
| Date: | 2011–03–14 |
| URL: | http://d.repec.org/n?u=RePEc:hal:cesptp:halshs-00576585&r=upt |
| By: | Andreasen, Martin (Bank of England) |
| Abstract: | This paper studies how non-Gaussian shocks affect risk premia in DSGE models approximated to second and third order. Based on an extension of the work by Schmitt-Grohe and Uribe to third order, we derive propositions for how rare disasters, stochastic volatility, and GARCH affect any risk premia in a wide class of DSGE models. To quantify these effects, we then set up a standard New Keynesian DSGE model where total factor productivity includes rare disasters, stochastic volatility, and GARCH. We find that rare disasters increase the mean level of the ten-year nominal term premium, whereas a key effect of stochastic volatility and GARCH is an increase in the variability of this premium. |
| Keywords: | Epstein-Zin-Weil preferences; GARCH; rare disasters; risk premia; stochastic volatility. |
| JEL: | C68 E30 E43 E44 G12 |
| Date: | 2011–03–15 |
| URL: | http://d.repec.org/n?u=RePEc:boe:boeewp:0417&r=upt |
| By: | Joseph G. Haubrich; George Pennacchi; Peter Ritchken |
| Abstract: | This paper develops a model of the term structures of nominal and real interest rates driven by state variables representing the short-term real interest rate, expected inflation, inflation’s central tendency, and four volatility factors that follow GARCH processes. We derive analytical solutions for nominal bond yields, yields on inflation-indexed bonds that have an indexation lag, and the term structure of expected inflation. Unlike prior studies, the model’s parameters are estimated using data on inflation swap rates, as well as nominal yields and survey forecasts of inflation. The volatility state variables fully determine bonds’ time-varying risk premia and allow for stochastic volatility and correlation between bond yields, yet they have small effects on the cross section of nominal yields. Allowing for time-varying volatility is particularly important for real interest rate and expected inflation processes, but long-horizon real and inflation risk premia are relatively stable. Comparing our model prices of inflation-indexed bonds to those of Treasury Inflation Protected Securities (TIPS) suggests that TIPS were significantly underpriced prior to 2004 and again during the 2008-2009 financial crisis. |
| Keywords: | Inflation (Finance) ; Interest rates ; Asset pricing |
| Date: | 2011 |
| URL: | http://d.repec.org/n?u=RePEc:fip:fedcwp:1107&r=upt |