Extending the Demand System Approach to Asset Pricing

Thomas Gehrig and Sögner, Leopold

No 17743, CEPR Discussion Papers from C.E.P.R. Discussion Papers

Abstract: We extend the demand systems approach of Koijen and Yogo (2019) to more general classes of preferences. Specifically we analyse constant absolute and constant relative risk aversion, provide conditions for the existence of equilibrium, and evaluate equilibrium prices at US-data. We find that constant absolute risk aversion works particularly well at moderate levels of risk aversion. In the case of relative risk aversion, optimal interior portfolio solutions may not even exist. In both preference classes especially out-of-sample predictions are rather volatile. In order to improve out-of-sample performance we augment the optimal strategies by a shrinkage device. As a side product we establish that the characteristics-based parametric portfolio approach of Brandt, Santa Clara and Valkanov (2009) can only be justified as optimal investments under exceedingly strong assumptions. In empirical data the shrinkage approach outperforms the parametric approach and the naive 1/N-strategy over quite a wide range of levels of absolute and relative risk aversion.

Keywords: parametric portfolio approach; Expected utility; Risk aversion; Machine learnings (search for similar items in EconPapers)
JEL-codes: C51 G11 G12 (search for similar items in EconPapers)
Date: 2022-12
References: Add references at CitEc
Citations:

Downloads: (external link)
https://cepr.org/publications/DP17743 (application/pdf)
CEPR Discussion Papers are free to download for our researchers, subscribers and members. If you fall into one of these categories but have trouble downloading our papers, please contact us at subscribers@cepr.org

Related works:
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: https://EconPapers.repec.org/RePEc:cpr:ceprdp:17743

Ordering information: This working paper can be ordered from
https://cepr.org/publications/DP17743

Access Statistics for this paper

More papers in CEPR Discussion Papers from C.E.P.R. Discussion Papers Centre for Economic Policy Research, 33 Great Sutton Street, London EC1V 0DX.
Bibliographic data for series maintained by ().