Working Paper: NBER ID: w12248
Authors: Geert Bekaert; Eric Engstrom; Yuhang Xing
Abstract: We identify the relative importance of changes in the conditional variance of fundamentals (which we call "uncertainty") and changes in risk aversion ("risk" for short) in the determination of the term structure, equity prices and risk premiums. Theoretically, we introduce persistent time-varying uncertainty about the fundamentals in an external habit model. The model matches the dynamics of dividend and consumption growth, including their volatility dynamics and many salient asset market phenomena. While the variation in dividend yields and the equity risk premium is primarily driven by risk, uncertainty plays a large role in the term structure and is the driver of counter-cyclical volatility of asset returns.
Keywords: No keywords provided
JEL Codes: G12; G15; E44
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| Changes in risk aversion (D11) | Variation in equity premium (G19) |
| Uncertainty (D89) | Variation in equity premium (G19) |
| Changes in risk aversion (D11) | Changes in asset prices (G19) |
| Uncertainty (D89) | Changes in asset prices (G19) |
| Changes in risk aversion (D11) | Changes in console prices (D49) |
| Changes in risk aversion (D11) | Changes in dividend yields (G35) |
| Uncertainty (D89) | Riskiness of equity cash flows (G12) |
| Uncertainty (D89) | Slope of the real term structure (E43) |
| Risk aversion (D81) | Level of the term structure (E43) |
| Uncertainty (D89) | Level of the real term structure (E43) |
| Changes in risk (D81) | Asset pricing dynamics (G19) |
| Uncertainty (D89) | Volatility dynamics of asset returns (G17) |