A Robust Equilibrium Relationship between Market Prices of Risks and Risk Aversion in Dynamically Complete Stochastic

Qian Han and Calum Turvey

No 2013-10-14, Working Papers from Wang Yanan Institute for Studies in Economics (WISE), Xiamen University

Abstract: We derive a general equilibrium linear relationship between the market prices of risks and market risk aversion under a continuous time stochastic volatility model completed by liquidly traded options. The relation is robust as it is valid for both endowment and production economies, and for both regular time-separable von-Neumann Morgenstern and non-time-separable habit formation preferences. The relation can be used in practice to construct a daily market risk aversion index from options market.

Keywords: General equilibrium; market price of risk; market risk aversion; market pricing kernel; habit formation; stochastic volatility model (search for similar items in EconPapers)
JEL-codes: C61 D51 G11 G13 (search for similar items in EconPapers)
Date: 2013-10-14
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