An extension of the consumption-based CAPM model

Georges DIONNE, Jingyuan LI, Cedric OKOU

Research output: Working paperWorking paper series

Abstract

We extend the Consumption-based CAPM (C-CAPM) model to representative agents with different risk attitudes. We first use the concept of expectation dependence and show that for a risk averse representative agent, it is the first-degree expectation dependence (FED) rather than the covariance that determines C-CAPM’s riskiness. We extend the assumption of risk aversion to prudence and propose the measure of second-degree expectation dependence (SED) to obtain the values of asset price and equity premium. These theoretical results are linked to the equity premium puzzle. Using the same dataset as in Campbell (2003), the estimated measures of relative risk aversion from FED and SED approximations are much lower than those obtained in the original theoretical model is then generalized to higher-degree risk changes and higher-order risk averse representative agents.
Original languageEnglish
PublisherCIRRELT
Number of pages40
Publication statusPublished - Mar 2012

Publication series

NameCIRRELT
No.CIRRELT-2012-11

Fingerprint

Capital asset pricing model
Representative agent
Risk-averse
Price premium
Asset prices
Riskiness
Equity premium
Risk attitude
Equity premium puzzle
Prudence
Risk aversion
Approximation
Relative risk aversion

Keywords

  • Consumption-based CAPM
  • risk premium
  • equity premium puzzle
  • expectation dependence
  • Ross risk aversion

Cite this

DIONNE, G., LI, J., & OKOU, C. (2012). An extension of the consumption-based CAPM model. (CIRRELT; No. CIRRELT-2012-11). CIRRELT.
DIONNE, Georges ; LI, Jingyuan ; OKOU, Cedric. / An extension of the consumption-based CAPM model. CIRRELT, 2012. (CIRRELT; CIRRELT-2012-11).
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DIONNE, G, LI, J & OKOU, C 2012 'An extension of the consumption-based CAPM model' CIRRELT, no. CIRRELT-2012-11, CIRRELT.

An extension of the consumption-based CAPM model. / DIONNE, Georges; LI, Jingyuan; OKOU, Cedric.

CIRRELT, 2012. (CIRRELT; No. CIRRELT-2012-11).

Research output: Working paperWorking paper series

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AB - We extend the Consumption-based CAPM (C-CAPM) model to representative agents with different risk attitudes. We first use the concept of expectation dependence and show that for a risk averse representative agent, it is the first-degree expectation dependence (FED) rather than the covariance that determines C-CAPM’s riskiness. We extend the assumption of risk aversion to prudence and propose the measure of second-degree expectation dependence (SED) to obtain the values of asset price and equity premium. These theoretical results are linked to the equity premium puzzle. Using the same dataset as in Campbell (2003), the estimated measures of relative risk aversion from FED and SED approximations are much lower than those obtained in the original theoretical model is then generalized to higher-degree risk changes and higher-order risk averse representative agents.

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DIONNE G, LI J, OKOU C. An extension of the consumption-based CAPM model. CIRRELT. 2012 Mar. (CIRRELT; CIRRELT-2012-11).