The Lucas Orchard

Ian Martin

No 17563, NBER Working Papers from National Bureau of Economic Research, Inc

Abstract: This paper investigates the behavior of asset prices in an endowment economy in which a representative agent with power utility consumes the dividends of multiple assets. The assets are Lucas trees; a collection of Lucas trees is a Lucas orchard. The model generates return correlations that vary endogenously, spiking at times of disaster. Since disasters spread across assets, the model generates large risk premia even for assets with stable fundamentals. Very small assets may comove endogenously and hence earn positive risk premia even if their fundamentals are independent of the rest of the economy. I provide conditions under which the variation in a small asset's price-dividend ratio can be attributed almost entirely to variation in its risk premium.

JEL-codes: G12 (search for similar items in EconPapers)
Date: 2011-11
New Economics Papers: this item is included in nep-cba, nep-dge and nep-upt
Note: AP EFG IFM
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Citations: View citations in EconPapers (10)

Published as Ian Martin, 2013. "The Lucas Orchard," Econometrica, Econometric Society, vol. 81(1), pages 55-111, 01.

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