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152
Conditional skewness in asset pricing tests
 Journal of Finance
, 2000
"... If asset returns have systematic skewness, expected returns should include rewards for accepting this risk. We formalize this intuition with an asset pricing model that incorporates conditional skewness. Our results show that conditional skewness helps explain the crosssectional variation of expect ..."
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Cited by 150 (6 self)
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If asset returns have systematic skewness, expected returns should include rewards for accepting this risk. We formalize this intuition with an asset pricing model that incorporates conditional skewness. Our results show that conditional skewness helps explain the crosssectional variation of expected returns across assets and is significant even when factors based on size and booktomarket are included. Systematic skewness is economically important and commands a risk premium, on average, of 3.60 percent per year. Our results suggest that the momentum effect is related to systematic skewness. The low expected return momentum portfolios have higher skewness than high expected return portfolios. THE SINGLE FACTOR CAPITAL ASSET PRICING MODEL ~CAPM! of Sharpe ~1964! and Lintner ~1965! has come under recent scrutiny. Tests indicate that the crossasset variation in expected returns cannot be explained by the market beta alone. For example, a growing number of studies show that “fundamental” variables such as size, booktomarket value, and price to earnings ratios
Resurrecting the (C)CAPM: A CrossSectional Test When Risk Premia Are TimeVarying
 Journal of Political Economy
, 2001
"... This paper explores the ability of conditional versions of the CAPM and the consumption CAPM—jointly the (C)CAPM—to explain the cross section of average stock returns. Central to our approach is the use of the log consumption–wealth ratio as a conditioning variable. We demonstrate that such conditio ..."
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Cited by 137 (4 self)
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This paper explores the ability of conditional versions of the CAPM and the consumption CAPM—jointly the (C)CAPM—to explain the cross section of average stock returns. Central to our approach is the use of the log consumption–wealth ratio as a conditioning variable. We demonstrate that such conditional models perform far better than unconditional specifications and about as well as the FamaFrench threefactor model on portfolios sorted by size and booktomarket characteristics. The conditional consumption CAPM can account for the difference in returns between lowbooktomarket and highbooktomarket portfolios and exhibits little evidence of residual size or booktomarket effects. We are grateful to Eugene Fama and Kenneth French for graciously providing the
Asset pricing at the millennium
 Journal of Finance
"... This paper surveys the field of asset pricing. The emphasis is on the interplay between theory and empirical work and on the tradeoff between risk and return. Modern research seeks to understand the behavior of the stochastic discount factor ~SDF! that prices all assets in the economy. The behavior ..."
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Cited by 123 (3 self)
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This paper surveys the field of asset pricing. The emphasis is on the interplay between theory and empirical work and on the tradeoff between risk and return. Modern research seeks to understand the behavior of the stochastic discount factor ~SDF! that prices all assets in the economy. The behavior of the term structure of real interest rates restricts the conditional mean of the SDF, whereas patterns of risk premia restrict its conditional volatility and factor structure. Stylized facts about interest rates, aggregate stock prices, and crosssectional patterns in stock returns have stimulated new research on optimal portfolio choice, intertemporal equilibrium models, and behavioral finance. This paper surveys the field of asset pricing. The emphasis is on the interplay between theory and empirical work. Theorists develop models with testable predictions; empirical researchers document “puzzles”—stylized facts that fail to fit established theories—and this stimulates the development of new theories. Such a process is part of the normal development of any science. Asset pricing, like the rest of economics, faces the special challenge that data are generated naturally rather than experimentally, and so researchers cannot control the quantity of data or the random shocks that affect the data. A particularly interesting characteristic of the asset pricing field is that these random shocks are also the subject matter of the theory. As Campbell, Lo, and MacKinlay ~1997, Chap. 1, p. 3! put it: What distinguishes financial economics is the central role that uncertainty plays in both financial theory and its empirical implementation. The starting point for every financial model is the uncertainty facing investors, and the substance of every financial model involves the impact of uncertainty on the behavior of investors and, ultimately, on mar* Department of Economics, Harvard University, Cambridge, Massachusetts
Characteristics, Covariances, And Average Returns: 1929 To 1997
, 1999
"... The value premium in U.S. stock returns is robust. The positive relation between average return and booktomarket equity is as strong for 1929 to 1963 as for the subsequent period studied in previous papers. A threefactor risk model explains the value premium better than the hypothesis that the bo ..."
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Cited by 101 (6 self)
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The value premium in U.S. stock returns is robust. The positive relation between average return and booktomarket equity is as strong for 1929 to 1963 as for the subsequent period studied in previous papers. A threefactor risk model explains the value premium better than the hypothesis that the booktomarket characteristic is compensated irrespective of risk loadings. Firms with high ratios of book value to the market value of common equity have higher average returns than firms with low booktomarket ratios (Rosenberg, Reid, and Lanstein (1985)). Because the capital asset pricing model (CAPM) of Sharpe (1964) and Lintner (1965) does not explain this pattern in average returns, it is typically called an anomaly. There are four common explanations for the booktomarket (BE/ME) anomaly. One says that the positive relation between BE/ME and average return (the socalled value premium) is a chance result unlikely to be observed out of sample (Black (1993), MacKinlay (1995)). Outofs...
Down or out: Assessing the welfare costs of household investment mistakes
 Journal of Political Economy
, 2007
"... This paper investigates the efficiency of household investment decisions in a unique dataset containing the disaggregated wealth and income of the entire population of Sweden. The analysis focuses on two main sources of inefficiency in the financial portfolio: underdiversification of risky assets (“ ..."
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Cited by 67 (13 self)
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This paper investigates the efficiency of household investment decisions in a unique dataset containing the disaggregated wealth and income of the entire population of Sweden. The analysis focuses on two main sources of inefficiency in the financial portfolio: underdiversification of risky assets (“down”) and nonparticipation in risky asset markets (“out”). We find that while a few households are very poorly diversified, the cost of diversification mistakes is quite modest for most of the population. For instance, a majority of participating Swedish households are sufficiently diversified internationally to outperform the Sharpe ratio of their domestic stock market. We document that households with greater financial sophistication tend to invest more efficiently but also more aggressively, so the welfare cost of portfolio inefficiency tends to be greater for these households. The welfare cost of nonparticipation is smaller by almost one half when we take account of the fact that nonparticipants would be unlikely to invest efficientlyiftheyparticipatedinrisky asset markets.
Tests of asset pricing models with changing expectations and an unobservable market portfolio, Unpublished working paper no
, 1984
"... When the assumption of constant risk premiums is relaxed, financial valuation models may be tested, and risk measures estimated without specifying a market index or state variables. This is accomplished by examining the behavior of conditional expected returns. The approach is developed using a sing ..."
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Cited by 36 (6 self)
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When the assumption of constant risk premiums is relaxed, financial valuation models may be tested, and risk measures estimated without specifying a market index or state variables. This is accomplished by examining the behavior of conditional expected returns. The approach is developed using a single risk premium asset pricing model as an example and then extended to models with multiple risk premiums. The methodology is illustrated using daily return data on the common stocks of the Dow Jones 30. The tests indicate that these returns are consistent with a single, timevarying risk premium. 1.
TwoPass Tests of Asset Pricing Models with Useless Factors
, 1997
"... In this paper we investigate the properties of the standard twopass methodology of testing beta pricing models with misspecified factors. In a setting where a factor is useless, defined as being independent of all the asse t returns, we provide theoretical results and simulation evidence that the s ..."
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Cited by 36 (4 self)
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In this paper we investigate the properties of the standard twopass methodology of testing beta pricing models with misspecified factors. In a setting where a factor is useless, defined as being independent of all the asse t returns, we provide theoretical results and simulation evidence that the secondpass crosssectional regression tends to find the beta risk of the useless factor priced more often than it should. More surprisingly, this misspecification bias exacerbates when the number of time series observations increases. Possible ways of detecting useless factors are also examined. When testing asset pricing models relating risk premiums on assets to their betas, the primary question of interest is whether the beta risk of a particular factor is priced (i.e., whether the estimated risk premium associated with a given factor is significantly di#erent from zero). Black, Jensen, and Scholes (1972) and Fama and MacBeth (1973) develop a twopass methodology in which the beta of each asset with respect to a factor is estimated in a firstpass time series regression, and estimated betas are then used in secondpass crosssectional regressions (CSRs) to estimate the risk premium of the factor. This twopass methodology is very intuitive and has been widely used in the literature. The properties of the test statistics and goodnessoffit measures under the twopass methodology are usually developed under the assumptions that the asset pricing model is correctly specified and that the factors are correctly identified. Shanken (1992) provides an excellent discussion of this twopass methodology, especially the large sample properties of the twopass CSR for the correctly specified model under the assumption that returns are conditionally homoskedastic. Jagannathan and Wa...
Fight or flight? portfolio rebalancing by individual investorssuper. The Quarterly
 Journal of Economics
, 2009
"... under a Research Grant to Sodini, the HEC Foundation, the National Science Foundation under Grant This paper investigates the dynamics of individual portfolios in a unique dataset containing the disaggregated wealth and income of all households in Sweden. Between 1999 and 2002, the average share of ..."
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Cited by 35 (3 self)
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under a Research Grant to Sodini, the HEC Foundation, the National Science Foundation under Grant This paper investigates the dynamics of individual portfolios in a unique dataset containing the disaggregated wealth and income of all households in Sweden. Between 1999 and 2002, the average share of risky assets in the financial portfolio of participants fell moderately, implying little aggregate rebalancing in response to the decline in risky asset prices during this period. We show that these aggregate patterns conceal strong householdlevel evidence of active rebalancing, which on average offsets about one half of idiosyncratic passive variations in the risky asset share. Sophisticated households with greater education, wealth, and income, and with better diversified portfolios, tend to rebalance more actively. We find some evidence that households rebalance towards a higher risky share as they become richer. We also study the decisions to enter and exit risky financial markets, and patterns of rebalancing for individual assets. We find that households are more likely to fully sell directly held stocks if those stocks have performed well, and more
An analytic derivation of the efficient portfolio frontier
 Journal of Financial and Quantitative analysis
, 1972
"... Your use of the JSTOR archive indicates your acceptance of JSTOR's Terms and Conditions of Use, available at ..."
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Cited by 35 (1 self)
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Your use of the JSTOR archive indicates your acceptance of JSTOR's Terms and Conditions of Use, available at
On the estimation of beta pricing models
 Review of Financial Studies
, 1992
"... An integrated econometric view of maximum likelihood methods and more traditional twopass approaches to estimating betapricing models is presented. Several aspects of the wellknown “errorsinvariables problem ” are considered, and an earlier conjecture concerning the merits of simultaneous estim ..."
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Cited by 35 (1 self)
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An integrated econometric view of maximum likelihood methods and more traditional twopass approaches to estimating betapricing models is presented. Several aspects of the wellknown “errorsinvariables problem ” are considered, and an earlier conjecture concerning the merits of simultaneous estimation of beta and price of risk parameters is evaluated. The traditional inference procedure is found, under standard assumptions, to overstate the precision of price of risk estimates and an asymptotically valid correction is derived. Modifications to accommodate serial correlation in marketwide factors are also discussed Sharpe (1964) and Lintner (1965) demonstrate that, in equilibrium, a financial asset’s expected return must be positively linearly related to its “beta, ” a measure of systematic risk or comovement with the market portfolio return: 1 This article is an extension of the second chapter of my doctoral dissertation at Carnegie Mellon University. Recent versions were presented in seminars