Valuation risk revalued
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This paper shows the recent success of valuation risk (time-preference shocks in Epstein- Zin utility) in resolving asset pricing puzzles rests sensitively on an undesirable asymptote that occurs because the preference specification fails to satisfy a key restriction on the weights in the Epstein-Zin time-aggregator. In a Bansal-Yaron long-run risk model, our revised valuation risk specification that satisfies the restriction provides a superior empirical fit. The results also show that valuation risk no longer has a major role in matching the mean equity premium and risk-free rate but is crucial for matching the volatility and autocorrelation of the risk-free rate.
de Groot , O , Richter , A W & Throckmorton , N A 2018 ' Valuation risk revalued ' School of Economics and Finance Discussion Paper , no. 1805 , University of St Andrews , St Andrews .
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