Worst-case scenarios and asset prices

Rhys Bidder

FRBSF Economic Letter, 2016

Abstract: Investors have a hard time accounting for uncertainty when calculating how much risk they are willing to bear. They can use economic models to project future earnings, but many models are misspecified along important dimensions. One method investors appear to use to protect against particularly damaging errors in their model is by projecting worst-case scenarios. The responses to such pessimistic predictions provide insights that can explain many of the puzzles about asset prices.

Date: 2016
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