EQUITY Premium Puzzle in a Data-Rich Environment

Mohamed Douch and Mohammed Bouaddi

MPRA Paper from University Library of Munich, Germany

Abstract: Standard consumption-based asset pricing models focus on the consumption risk, seen as the only source of fluctuations and information about risk for the informed investor. These models, however, can account for high expected excess stock return only when assuming implausible relative risk aversion. This paper adds additional risk factors to the standard C-CAPM model to resolve both the equity premium and the risk-free rate puzzles as well as the risk-free rate volatility puzzle. By adding other relevant risk factors, the resulting pricing model is able to explain these puzzles relying on admissible range of local relative risk aversion. The model generates, also, a time-varying relative risk aversion and intertemporal elasticity of substitution.

Keywords: Common factors; factor analysis; principal components; asset pricing; equity premium puzzle; risk free rate puzzle. (search for similar items in EconPapers)
JEL-codes: G10 G12 (search for similar items in EconPapers)
Date: 2010-12
New Economics Papers: this item is included in nep-upt
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Persistent link: https://EconPapers.repec.org/RePEc:pra:mprapa:29440

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