Evidence from tests of an intertemporal capital asset pricing model mozaffar khan university of toronto this draft. The intertemporal capital asset pricing model of merton 1973 is examined using the dynamic conditional correlation dcc model of engle 2002. An intertemporal capital asset pricing model econpapers. Mertons 1973 intertemporal capital asset pricing model. The capital asset pricing model capm is an example of an equilibrium model in which asset prices are related to the exogenous data, the tastes and endowments of investors although, as we shall see below, the capm is often presented as a relative pricing model. Campbell 1993 pointed out that the intertemporal budget constraint could be used to substitute out consumption growth, turning the model into a mertonstyle icapm. Intertemporal capital asset pricing and the famafrench threefactor model. An intertemporal capital asset pricing model robert c. Advancing the capital asset pricing model capm arno popanda term paper advanced seminar economics finance publish your bachelors or masters thesis, dissertation, term paper or essay. Intertemporal capital asset pricing model icapm investopedia. Lo and jiang wangy october 5, 2001 abstract we derive an intertemporal capital asset pricing model with multiple assets and heterogeneous investors, and explore its implications for the behavior of trading volume and asset returns. Under general conditions, that is, when the utility function is not cobbdouglas and the covariance matrix is not blockdiagonal, the model shows that the market portfolio is not meanvariance efficient, and the traditional capital asset pricing. The model is to maximize the expected utility of lifetime consumption and to assume the investors trade continuously.
Ross this paper develops a continuous time general equilibrium model of a simple but complete economy and uses it to examine the behavior of asset prices. An intertemporal general equilibrium model of asset prices. Since the seminal work of merton 1973 on the intertemporal capital asset pricing model icapm, a large empirical literature has explored the relevance of intertemporal considerations for the pricing of nancial assets in general, and the crosssectional pricing of stocks in particular. Request pdf an intertemporal capital asset pricing model with owneroccupied housing this article studies portfolio choice and asset pricing in the presence of owneroccupied housing in a. Theory and evidence abstract in this paper, the aggregate consumption function is characterized as a nonlinear function of the market and hedge factors to derive a threemoment intertemporal capital asset pricing model that prices coskewness. Merton 1973 introduces an intertemporal capital asset pricing model icapm in which an asset s expected return depends on its covariance with the market portfolio and with state variables that proxy for changes in investment opportunity set.
When the true asset pricing model cannot be identified, the idiosyncratic volatility obtained from a misspecified model contains information of the hedge portfolio in mertons 1973 icapm. A financial model that takes into account major sources of risk when optimizing consumption over a period of time. The intertemporal capital asset pricing model icapm is a consumptionbased capital asset pricing model ccapm that assumes investors. A threemoment intertemporal capital asset pricing model. However, in the intertemporal capitalassetpricingmodel framework 20, our finding implies that investors are willing to pay an insurance premium because stocks with high sensitivity to sustainable volatility offer a hedging opportunity against future uncertainty and are attractive despite low returns. Assumptions these notes are based on the article robert c. A model of intertemporal asset prices under asymmetric. An intertemporal capital asset pricing model jstor. Cochrane 1992 and jagannathan and wang 1994 show that a singlefactor conditional asset pricing model, such as a.
Mertons 1973 intertemporal capital asset pricing model icapm shows that such assets should deliver lower average returns in equilibrium if they are priced from conservative longterm investorsrstorder conditions. In finance, the capital asset pricing model capm is a model used to determine a theoretically appropriate required rate of return of an asset, to make decisions about adding assets to a welldiversified portfolio. Whereas capm uses market movement to predict a stocks return, ccapms explain the markets movement or a securitys movement by its relationship to aggregate consumption. Ross 1985 an intertemporal general equilibrium model of asset prices, econometrica 53, p. We begin by developing an intertemporal capital asset pricing ple assets in the spirit of mertons icapm merton, 1973. So, it turns out that the model s implications hold in more general contexts. Idiosyncratic volatility and the intertemporal capital. Jan 11, 2007 we derive an intertemporal asset pricing model and explore its implications for trading volume and asset returns. An intertemporal capm with stochastic volatility lse.
Theory and evidence abstract in this paper, the aggregate consumption function is characterized as a nonlinear function of the market and hedge factors to derive a threemoment intertemporal capital asset pricing model that. Arbitrage pricing theory and intertemporal capital asset pricing model 1. Implications of an intertemporal capital asset pricing model. Risk aversion and intertemporal substitution in the capital asset pricing model article pdf available february 1989 with 71 reads how we measure reads. Characterizing the instantaneous investment opportunity set by the real interest rate and the maximum sharpe ratio, a simple model of time varying investment opportunities is posited in which these two variables follow correlated ornsteinuhlenbeck processes, and the implications for stock and bond valuation are developed.
Pdf an intertemporal capital asset pricing model researchgate. Breeden stanford university, stanford, ca 94305, usa received october 1978, revised version received july 1979 this paper derives a singlebeta asset pricing model in a multigood, continuoustime model. Merton an intertemporal model for the capital market is deduced from the portfolio selection behavior by an arbitrary number of investors who aot so as to maximize the expected utility of lifetime consumption and who can trade continuously in time. Icapm first introduced by merton in 1973, is an extension of capm that additionally accounts for timevarying factors.
Multifactor models regarding intertemporal capital asset. We begin by developing an intertemporal capital asset pricing model of multi ple assets in the spirit of mertons icapm merton, 1973. Coskewness risk decomposition, covariation risk, and. An intertemporal capital asset pricing model with owner. A financial model that extends the concept of the capital asset pricing model capm to international investments. We show that investors trade in only two portfolios. We derive an intertemporal capital asset pricing model with multiple assets and heterogeneous investors, and explore its implications for the behavior of trading volume and asset returns. Solve static problem instead of intertemporal problem 2. The authors are grateful to john cochrane for comments on a previous draft.
The unique feature of the model is that housing is a consumption good as well as a risky asset. The meanreverting dcc model is used to estimate a stocks portfolios conditional covariance with the market and test whether the conditional covariance predicts timevariation in the stocks portfolios expected return. Explicit demand functions for assets are derived, and it. Pdf an intertemporal model for the capital market is deduced from the portfolio selection behavior by an arbitrary number of investors who act. Intertemporal capital asset pricing model icapm definition.
This paper explores whether risk as measured by an alternative benchmark pricing model can explain the accrual anomaly. Intertemporal equilibrium pricingmarch 12, 2020 6 48 the consumption capital asset pricing model again. G12, g11, g14 abstract we derive an intertemporal capital asset pricing model with multiple assets and heterogeneous investors, and explore its implications for the behavior of trading volume. Merton 1973 an intertemporal capital asset pricing model, econometrica 41, p. Pdf intertemporal capital asset pricing and the famafrench. The intertemporal capital asset pricing model with dynamic. An intertemporal asset pricing model with stochastic. Merton 1973 introduces an intertemporal capital asset pricing model icapm in which an assets expected return depends on its covariance with the market. The intertemporal capital asset pricing model icapm is a consumptionbased assetpricing model.
If a real riskless asset or portfolio is assumed to exist and have a real return of r, then the expected return on a zero real consumptionbeta portfolio in the pricing eq. International capital asset pricing model capm definition. In a homoskedastic lognormal setting, the consumptionwealth ratio is shown to depend on the elasticity of intertemporal substitution in consumption, while asset risk premia are determined by. An intertemporal capital asset pricing model created date. This model generalizes the marketreturn decomposition framework, showing that intertemporal considerations imply a decomposition of squared market returns coskewness risk.
The intertemporal capital asset pricing model icapm predicts that an unobservable factor capturing changes in expected market returns should be priced in the cross section. In section i, we present our intertemporal equilibrium model of assetpricing and trading volume. A model of intertemporal asset prices under asymmetric information jiang wang massachusetts institute of technology first version received february 1991, jnal version accepted september 1992 eds. Idiosyncratic volatility and the intertemporal capital asset.
Kalev, konark saxena, and leon zolotoy abstract we develop an intertemporal asset pricing model where cash. My bayesian framework accounts for uncertainty in the intertemporal risk factor and gauges the effects of prior information about investment opportunities on model inferences. The capm model deals with the question of how asset prices and yields are determined, under the hypothesis that the riskfree interest rate and market return are variables determined outside the model. After aggregating demands and requiring market clearing, the equilibrium relationships among expected returns are derived, and contrary to the classical capital asset pricing model, expected returns on risky assets may differ from the riskless rate even when they have no systematic or market risk. In section ii, we explore the models implications for volume and returns. We derive an intertemporal asset pricing model and explore its implications for trading volume and asset returns. Pricing intertemporal risk when investment opportunities. The intertemporal capital asset pricing model with. Intertemporal capital asset pricing and the famafrench three. An intertemporal capital asset pricing model with owneroccupied housing yongqiang chu school of business university of wisconsin email.
This paper plays a part in two branches of the asset pricing literature, the multifactor literature built on the arbitrage pricing theory apt from ross 1976 1 and the intertemporal capital. An intertemporal capital asset pricing model the evidence. Lo and jiang wangy october 5, 2001 abstract we derive an intertemporal capital asset pricing model with multiple assets and heterogeneous investors, and explore its implications for the behavior of trading volume and asset. This model generalizes the marketreturn decomposition framework, showing that intertemporal considerations. By adding owneroccupied housing into the classical analysis, the model provides more insights into asset pricing, since owneroccupied housing is di. Intertemporal asset pricing without consumption data. It is a linear factor model with wealth as state variable that forecast changes in the distribution of future returns or income.
Icapm shows that such assets should deliver lower aver age returns in equilibrium if they are priced. Each individual k has a stochastic number of labor units, y, that yield a continuous wage income rate of iyk. Risk aversion and intertemporal substitution in the capital. An intertemporal asset pricing model with stochastic consumption and investment opportunities douglas t. The intertemporal capital asset pricing model, or icapm, is an alternative to the capm provided by robert merton. It extends the analysis in mertons earlier consumption and portfolio rules papertoconsider theequilibrium relations between assetrates. Pdf the intertemporal capital asset pricing model with. The fundamental insight of intertemporal asset pricing theory is that longterm investors should care just as much about the returns they earn on their invested wealth as about the level of that wealth. Implications of an intertemporal capital asset pricing model created date. This paper extends the intertemporal capital asset pricing model icapm to integrate the heterogeneous trading behavior of three groups of investors. Nov, 2019 international capital asset pricing model capm. Idiosyncratic volatility and the intertemporal capital asset pricing model gang li university of toronto abstract. Implications of an intertemporal capital asset pricing model andrew w.
It states that, besides the market risk, risk of unfavorable shifts in the investment opportunity set proxied by. This paper presents a dynamic assetpricing model under asymmetric information. January 23, 2005 job market paper abstract this paper examines the anomaly, first reported by sloan 1996, that the market misprices stocks of firms with extreme high or low accruals. Merton an intertemporal model for the capital market is deduced from the portfolio selection behavior by an arbitrary number of investors who aot so as to maximize the expected utility of lifetime consumption and who can trade continuously in. We develop an intertemporal asset pricing model where cashflow news, discountrate news, and their second moments are priced by the market. Asset pricing i slide 118 static problem intertemporal problem in general icapm setting crra with 1 and changing investment opportunity sets special cases 1. An intertemporal capital asset pricing model with owneroccupied housing this is a wileyblackwell publishing paper. An intertemporal capital asset pricing model with heterogeneous expectations abstract. Mertons 1973 intertemporal capital asset pricing model icapm shows that such assets should deliver lower average returns in equilibrium if they are priced from conservative longterm investors rstorder conditions. The intertemporal capital asset pricing model with dynamic conditional correlations. Multifactor models regarding intertemporal capital asset pricing model icapm assumptions on european and us market data. Icapm assumes that investors will try to hedge their risky positions based on current and projected factors such as inflation.