ABSTRACT This paper investigates nonlinear pricing kernels in which the risk factor is endogenously determined and preferences restrict the definition of the pricing kernel. These kernels potentially generate the empirical performance of nonlinear and multifactor models, while maintaining empirical power and avoiding ad hoc specifications of factors or functional form. Our test results indicate that preference‐restricted nonlinear pricing kernels are both admissible for the cross section of returns and are able to significantly improve upon linear single‐ and multifactor kernels. Further, the nonlinearities in the pricing kernel drive out the importance of the factors in the linear multi‐factor model.

We analyze the impact of emerging-market sovereign bonds on emerging-market corporate bonds by examining their spanning enhancement, price discovery, and issuance effects. We find that the effect of spanning enhancement is positive and large; over one-fifth of the information in corporate yield spreads is traced to innovations in sovereign bonds; and most of these effects are due to discovery and spanning of systematic risks. Further, issuance of sovereign bonds, controlling for endogeneity of market-timing decisions, lowers corporate yield and bid-ask spreads. Our results indicate that sovereign securities act as benchmarks and suggest they promote a vibrant corporate bond market.

[We analyze the impact of emerging-market sovereign bonds on emerging-market corporate bonds by examining their spanning enhancement, price discovery, and issuance effects. We find that the effect of spanning enhancement is positive and large; over one-fifth of the information in corporate yield spreads is traced to innovations in sovereign bonds; and most of these effects are due to discovery and spanning of systematic risks. Further, issuance of sovereign bonds, controlling for endogeneity of market-timing decisions, lowers corporate yield and bid-ask spreads. Our results indicate that sovereign securities act as benchmarks and suggest they promote a vibrant corporate bond market.]

[We argue that the cointegrating relation between dividends and consumption, a measure of long-run consumption risks, is a key determinant of risk premia at all investment horizons. As the investment horizon increases, transitory risks disappear, and the asset's beta is dominated by long-run consumption risks. We show that the return betas, derived from the cointegration-based VAR (EC-VAR) model, successfully account for the cross-sectional variation in equity returns at both short and long horizons; however, this is not the case when the cointegrating restriction is ignored. Our evidence highlights the importance of cointegration-based long-run consumption risks for financial markets.]

[This paper proposes a new method of forming basis assets. We use return correlations to sort securities into portfolios and compare the inferences drawn from this set of basis assets with those drawn from other benchmark portfolios. The proposed set of portfolios appears capable of generating measures of risk-return trade-off that are estimated with a lower error. In tests of asset pricing models, we find that the returns of these portfolios are significantly and positively related to both CAPM and Consumption CAPM risk measures, and there are significant components of these returns that are not captured by the three-factor model.]

We assess the profitability of momentum strategies using a stochastic discount factor approach. In unconditional tests, approximately half of the strategies' profitability is explained. In conditional tests we see a further slight decline in profits. We argue that the risk of these strategies should be increasing in the market risk premium. Empirically, while their risk measures estimated relative to the stochastic discount factor behave as predicted, market betas do not; thus capital asset pricing model (CAPM)-like benchmarks may lead to incorrect inferences. Given that our nonparametric risk adjustment explains roughly half of momentum strategy profits, we cannot rule out the possibility of residual mispricing.

We analyze the contribution of leisure preferences to a model of long-run risks in leisure and consumption growth. The marginal utility of consumption is affected by short- and long-run risks in leisure under nonseparable and recursive preferences. We match equity risk premia and macroeconomic moments with plausible coefficients of relative-risk aversion. Additionally, the model generates a less negative to positively sloped average real yield curve, depending on the elasticity of substitution between the consumption of nondurables and services and leisure. Further, the incorporation of leisure in utility allows us to derive model implications for the return on human capital. Received October 11, 2011; accepted December 24, 2015 by Editor Wayne Ferson.

Abstract We investigate the empirical implications of the investment-based model of asset pricing for the Hansen-Jagannathan and Kozak-Nagel-Santosh discount factors in the linear span of equity returns. We find that the stochastic discount factors satisfying the Euler equation for equity returns cannot satisfy the Euler equation for investment returns because returns on corporate investment covary inversely with the sources of equity risk relative to returns on equity. As a result, the model fails to replicate the level of the risk premium. Our results suggest that joint restrictions on the optimality of investment and consumption pose stringent conditions for candidate production models.

This article theoretically explores the characteristics underpinning quadratic term structure models (QTSMs), which designate the yield on a bond as a quadratic function of underlying state variables. We develop a comprehensive QTSM, which is maximally flexible and thus encompasses the features of several diverse models including the double square-root model of Longstaff (1989), the univariate quadratic model of Beaglehole and Tenney (1992), and the squared-autoregressive-independent-variable nominal term structure (SAINTS) model of Constantinides (1992). We document a complete classification of admissibility and empirical identification for the QTSM, and demonstrate that the QTSM can overcome limitations inherent in affine term structure models (ATSMs). Using the efficient method of moments of Gallant and Tauchen (1996), we test the empirical performance of the model in determining bond prices and compare the performance to the ATSMs. The results of the goodness-of-fit tests suggest that the QTSMs outperform the ATSMs in explaining historical bond price behavior in the United States.

ABSTRACT We use option prices to estimate ex ante higher moments of the underlying individual securities’ risk‐neutral returns distribution. We find that individual securities’ risk‐neutral volatility, skewness, and kurtosis are strongly related to future returns. Specifically, we find a negative (positive) relation between ex ante volatility (kurtosis) and subsequent returns in the cross‐section, and more ex ante negatively (positively) skewed returns yield subsequent higher (lower) returns. We analyze the extent to which these returns relations represent compensation for risk and find evidence that, even after controlling for differences in co‐moments, individual securities’ skewness matters.