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Benchmark Index of Risk Appetite

Miroslav Misina

Staff Working Papers from Bank of Canada

Abstract: Changes in investors' risk appetite have been used to explain a variety of phenomena in asset markets. And yet, popular indicators of changes in risk appetite typically have scant foundation in theory, and give contradictory signals in practice. The question is which popular indicator, if any, captures these changes. Kumar and Persaud (2002) offer an intuitively appealing argument regarding the effects of changes in risk appetite on asset prices in a portfolio, and Misina (2003) establishes the conditions under which these effects will be present. The author proposes a method that empirically implements these conditions and thus ensures that the resulting index can identify changes in risk appetite in the data. This index is then used to assess other risk appetite indexes used in practice. An example illustrates how the index can be used to help interpret price movements in foreign exchange markets.

Keywords: Economic models; Financial markets (search for similar items in EconPapers)
JEL-codes: G12 (search for similar items in EconPapers)
Pages: 30 pages
Date: 2006
New Economics Papers: this item is included in nep-bec, nep-fin, nep-fmk and nep-upt
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Persistent link: https://EconPapers.repec.org/RePEc:bca:bocawp:06-16

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