Working Paper: NBER ID: w25673
Authors: Geert Bekaert; Eric C. Engstrom; Nancy R. Xu
Abstract: We develop measures of time-varying risk aversion and economic uncertainty that are calculated from financial variables at high frequencies. We formulate a dynamic no-arbitrage asset pricing model for equities and corporate bonds. The joint dynamics among asset-specific cash flows, macroeconomic fundamentals and risk aversion feature heteroskedasticity and non-Gaussianity. Variance risk premiums on equity are very informative about risk aversion, whereas credit spreads and corporate bond volatility are highly correlated with economic uncertainty. Model-implied risk premiums outperform standard instruments for predicting excess returns on equity and corporate bonds. A financial proxy to our economic uncertainty predicts output growth significantly negatively.
Keywords: risk aversion; economic uncertainty; asset pricing; financial markets
JEL Codes: C01; G10; G12; G13
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| variance risk premiums on equity (G12) | risk aversion (D81) |
| economic uncertainty (D89) | output growth (O40) |
| economic uncertainty index (E32) | output growth (O40) |
| realized variances (C29) | risk aversion (D81) |
| macroeconomic uncertainty (D89) | output growth (O40) |