A Theory of Dissimilarity Between Stochastic Discount Factors

Gurdip Bakshi (), Xiaohui Gao () and George Panayotov ()
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Gurdip Bakshi: Fox School of Business, Temple University, Philadelphia, Pennsylvania 19122
Xiaohui Gao: Fox School of Business, Temple University, Philadelphia, Pennsylvania 19122
George Panayotov: School of Business and Management, Hong Kong University of Science and Technology, Clearwater Bay, Kowloon, Hong Kong

Management Science, 2021, vol. 67, issue 7, 4602-4622

Abstract: This paper proposes a measure of dissimilarity between stochastic discount factors (SDFs) in different economies. The SDFs are made comparable using the respective bond prices as the numeraire. The measure is dimensionless, synthesizes features of the risk-neutral moments of excess currency returns, and can be extracted from currency option prices. Linking theory to data, we provide evidence gathered from (i) the cross section of 45 currency option prices, (ii) the time series of currency returns, (iii) estimated SDFs using model-free restrictions, and (iv) structural models in international finance.

Keywords: Hellinger measure; dissimilarity between stochastic discount factors (search for similar items in EconPapers)
Date: 2021
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Persistent link: https://EconPapers.repec.org/RePEc:inm:ormnsc:v:67:y:2021:i:7:p:4602-4622

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