Maurer, Thomas A.
(2012)
Is consumption growth only a sideshow in asset pricing?: asset pricing implications of demographic change and
shocks to time preferences.
PhD thesis, London School of Economics and Political Science.
Abstract
I show that risk sources such as unexpected demographic changes or shocks to the
agent's subjective time preferences may have stronger implications and be of greater
importance for asset pricing than risk in the (aggregate) consumption growth process.
In the first chapter, I discuss stochastic changes to time preferences. Shocks to the
agent's subjective time discounting of future utility cause stochastic changes in asset
prices and the agent's value function. Independent of the consumption growth process,
shocks to time discounting imply a covariation between asset returns and the marginal
utility process, and the equity premium is non-zero. My model can generate both a
reasonably low level and volatility in the risk-free real interest rate and a high stock
price volatility and equity premium. If time discounting follows a process with mean-
reversion, then the interest rate process is mean-reverting and stock returns are (at
long horizons) negatively auto-correlated.
In the second chapter, I analyze the asset pricing implications of birth and death rate
shocks in an overlapping generations model. The interest rate and the equity premium
are time varying and under certain conditions the interest rate is lower and the equity
premium is higher during periods characterized by a high birth rate and low mortality
than in times of a low birth rate and high mortality. Demographic changes may explain
substantial parts of the time variation in the real interest rate and the equity premium.
Demographic uncertainty implies a large unconditional variation in asset returns and
leads to stochastic changes in the conditional volatility of stock returns.
In the last chapter, I illustrate how shocks to the death rate may affect expected asset
returns in the cross-section. An agent demands more of an asset with higher (lower)
payoff in states of the world when he expects to live longer (shorter) and marginal utility
is high (low) than an asset with the opposite payoff schedule. In equilibrium, the first
asset pays a lower expected return than the latter. Empirical evidence supports the
model. Out-of-sample evidence suggests that a strategy, which loads on uncertainty
in the death rate, pays a positive unexplained return according to traditional market
models.
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