Macroeconomic Shocks and Risk Premia
No 1812, Discussion Papers from Centre for Macroeconomics (CFM)
This paper integrates models of empirical asset pricing with structural vector autoregressions (VAR) to explore the macroeconomic forces behind the cross-sectional and time-series variation in expected excess returns. First, I use an unconditional asset pricing framework to find an orthogonal shock in a macroeconomic VAR that best explains the cross-sectional variation in expected returns. The obtained “λ-shock” closely resembles identified monetary policy surprises and does not explain the recent US recessions. Second, I integrate return-forecasting methods to construct a second shock in the VAR, which best explains time-variation in expected returns. The obtained “γ-shock” turns out to be virtually orthogonal to the λ-shock, closely resembles demand-type financial shocks identified by macroeconomists, and explains most US recessions. I find that the λ-shock and the γ-shock jointly explain up to 80% of aggregate consumption fluctuations in the US.
Keywords: SDF; VAR; Shocks; Cross-section of returns; Time-varying risk premia (search for similar items in EconPapers)
JEL-codes: C32 G12 (search for similar items in EconPapers)
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Working Paper: Macroeconomic shocks and risk premia (2018)
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Persistent link: https://EconPapers.repec.org/RePEc:cfm:wpaper:1812
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