Journal Article

Can Rare Events Explain the Equity Premium Puzzle?

Christian Julliard and Anisha Ghosh

in The Review of Financial Studies

Published on behalf of The Society for Financial Studies

Volume 25, issue 10, pages 3037-3076
Published in print October 2012 | ISSN: 0893-9454
Published online September 2012 | e-ISSN: 1465-7368 | DOI: http://dx.doi.org/10.1093/rfs/hhs078
Can Rare Events Explain the Equity Premium Puzzle?

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  • Econometric and Statistical Methods and Methodology: General
  • General Aggregative Models
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Probably not. First, allowing the probabilities of the states of the economy to differ from their sample frequencies, the consumption-CAPM is still rejected in both U.S. and international data. Second, the recorded world disasters are too small to rationalize the puzzle, unless one assumes that disasters occur every 6–10 years. Third, if the data were generated by the rare events distribution needed to rationalize the equity premium puzzle, the puzzle itself would be unlikely to arise. Fourth, the rare events hypothesis, by reducing the cross-sectional dispersion of consumption risk, worsens the ability of the consumption-CAPM to explain the cross-section of returns.

Keywords: C11; C14; E17; G12

Journal Article.  18334 words.  Illustrated.

Subjects: Econometric and Statistical Methods and Methodology: General ; General Aggregative Models ; Economics

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