Editor's Choice Rare Booms and Disasters in a Multisector Endowment Economy

Jerry Tsai and Jessica A. Wachter

The Review of Financial Studies, 2016, vol. 29, issue 5, 1113-1169

Abstract: Why do value stocks have higher average returns than growth stocks, despite having lower risk? Why do these stocks exhibit positive abnormal performance, while growth stocks exhibit negative abnormal performance? This paper offers a rare-event-based explanation that can also account for the high equity premium and volatility of the aggregate market. The model explains other puzzling aspects of the data, such as joint patterns in time-series predictablity of aggregate market and value and growth returns, long periods in which growth outperforms value, and the association between positive skewness and low realized returns. Received March 18, 2013; accepted October 18, 2015 by Editor Pietro Veronesi.

Date: 2016
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