If a pricing kernel assigns a premium to a risk variable that differs from the one assigned by the minimum-variance admissible kernel, then the pricing kernel must exhibit more variability than the minimum-variance kernel. Based on this intuition, the authors derive a variance bound that is more stringent than that of Lars Peter Hansen and Ravi Jagannathan (1991). When the authors apply their bound to the kernel of a representative consumer with power utility, they find that the consumption risk premium increases the severity of the 'equity-premium puzzle' of Rajnish Mehra and Edward C. Prescott (1985).

Affine term structure models imply an affine relation between yields and factors, and between yields and yields. Hence, a necessary condition for the affine class to hold is that yield changes are linearly related to changes in as many other yields as the number of underlying risk factors. At the same time, yield changes should be unrelated to changes in nonlinear transformations of other yields. We test this hypothesis using weekly data on U.S. Treasury yields for the June 1961–December 2002 sample period. Bootstrap-adjusted tests lead to only weak rejections of the affine class, and a simulation shows that these tests have correct size and high power. Imposing the cross-equation restrictions deriving from a no-arbitrage affine term structure model leads to stronger rejections, but these stronger rejections have more to do with the no-arbitrage restrictions than with the implication of linearity. In an out-of-sample hedging exercise, the constant hedge ratios implied by the affine class generally outperform time-varying hedge ratios implied by nonlinear models.

Standard finite horizon tests uncover only weak evidence of the predictive power of the real exchange rate for excess currency returns. On the other hand, in long-horizon tests, the real exchange rate strongly and negatively predicts future excess currency returns. Conversely, we can attribute most of the variability in real exchange rates to changes in currency risk premiums. The “habit” and “long-run risks” models replicate the predictive power of the real exchange rate for excess currency returns, but substantially overstate the fraction of the volatility of the real exchange rate due to risk premiums. Received December 14, 2017; Editorial decision October 14, 2018 by Editor: Raman Uppal. Authors have furnished an Internet Appendix, which is available on the Oxford University Press Web site next to the link to the final published paper online.

This article combines the continuous arrival of information with the infrequency of trades and investigates the effects on asset price dynamics of positive- and negative-feedback trading. Specifically, the authors model an economy where stocks and bonds are traded by two types of agents: speculators who maximize expected utility and feedback traders who mechanically respond to price changes and infrequently submit market orders. They show that positive-feedback strategies increase the volatility of stock returns and the response of stock prices to dividend news. Conversely, the presence of negative-feedback traders makes stock returns less volatile and prices less responsive to dividends.

ABSTRACT If a pricing kernel assigns a premium to a risk variable that differs from the one assigned by the minimum‐variance admissible kernel, then the pricing kernel must exhibit more variability than the minimum‐variance kernel. Based on this intuition, we derive a variance bound that is more stringent than that of Hansen and Jagannathan (1991) . When we apply our bound to the kernel of a representative consumer with power utility, we find that the consumption risk premium increases the severity of the “equity‐premium puzzle” of Mehra and Prescott (1985) .

If a pricing kernel assigns a premium to a risk variable that differs from the one assigned by the minimum-variance admissible kernel, then the pricing kernel must exhibit more variability than the minimum-variance kernel. Based on this intuition, we derive a variance bound that is more stringent than that of Hansen and Jagannathan (1991). When we apply our bound to the kernel of a representative consumer with power utility, we find that the consumption risk premium increases the severity of the “equity-premium puzzle” of Mehra and Prescott (1985).

Pierluigi Balduzzi, Silverio Foresi, David J. Hait, Price Barriers and the Dynamics of Asset Prices in Equilibrium, The Journal of Financial and Quantitative Analysis, Vol. 32, No. 2 (Jun., 1997), pp. 137-159

We test whether adverse changes to banks’ market valuations during the financial and sovereign debt crises affected firms’ real decisions. Using new data linking over 5000 non-financial Italian firms to their bank(s), we find that increases in banks’ CDS spreads, and decreases in their equity valuations, resulted in lower investment, employment, and bank debt for younger and smaller firms. These effects dominate those of banks’ balance-sheet variables. Moreover, CDS spreads matter more than equity valuations. Finally, higher CDS spreads led to lower aggregate investment and employment, and to less efficient resource allocations, especially during the sovereign debt crisis.

We use high-frequency data to precisely estimate bond price reactions to macroeconomic announcements and the associated compensation for macro risks. We find evidence of a single factor summarizing the reaction of bond prices to different announcements. Before the financial crisis, the factor risk premium is substantial, significant, and mainly earned before announcement releases. After the crisis, the stock–bond covariance becomes negative and the preannouncement factor risk premium becomes insignificant. Our empirical results are consistent with information leakages that take place ahead of announcement releases and with the implications of a long-run risks model of bond risk premia.

The use of target date funds (TDFs) as default options in 401(k) plans increased sharply following the Pension Protection Act of 2006. We document large differences in the realized returns and ex ante risk profiles of TDFs with similar target retirement dates. Analyzing fund-level data, we find evidence that this heterogeneity reflects strategic risk-taking by families with low market share, especially those entering the TDF market after 2006. Analyzing plan-level data, we find little evidence that 401(k) plan sponsors consider, to any economically meaningful degree, the risk profiles of their firms when choosing among TDFs. Received June 13, 2013; editorial decision March 20, 2018 by Editor Laura Starks. Authors have furnished an Internet Appendix, which is available on the Oxford University Press Web site next to the link to the final published paper online.