Journal of Financial and Quantitative Analysis Vol. 59 No. 4 2024
Generalized Disappointment Aversion and the Variance Term Structure
Abstract
Contrary to leading asset pricing theories, recent empirical evidence indicates that financial markets compensate only short-term equity variance risk. An equilibrium model with generalized disappointment aversion risk preferences and rare events reconciles salient features of the variance term structure. In addition, a calibration explains the variance and skew risk premiums in equity returns and the implied volatility skew of index options while capturing standard moments of fundamentals, equity returns, and the risk-free rate. The key intuition for the results stems from substantial countercyclical risk aversion induced by endogenous variation in the probability of disappointing events in consumption growth.
- DOI
- 10.1017/s0022109023000364
- Volume
- 59
- Issue
- 4
- Pages
- 1796-1820
- Language
- en
- Sources
- bibtex:phds-export.bib openalex crossref