Asset Return Dynamics Under Bad Environment-Good Environment Fundamentals

Geert Bekaert and Eric Engstrom

No 8150, CEPR Discussion Papers from Centre for Economic Policy Research

Abstract: We introduce a "bad environment-good environment" technology for consumption growth in a consumption-based asset pricing model. Using the preference structure from Campbell and Cochrane (1999), the model generates realistic time-varying volatility, skewness and kurtosis in fundamentals while still permitting closed-form solutions for asset prices. The model not only fits standard salient asset prices features including means and volatilities for equity returns and risk free rates, but also generates a realistic variance premium and option prices.

Keywords: Countercyclical risk aversion; Dividend yield; Economic uncertainty; Equity premium; Return predictability; Variance premium (search for similar items in EconPapers)
JEL-codes: E44 G12 G15 (search for similar items in EconPapers)
Date: 2010-12
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Citations: View citations in EconPapers (24)

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Working Paper: Asset Return Dynamics under Bad Environment Good Environment Fundamentals (2009)
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