A Simple Theory of Asset Pricing Under Model Uncertainty

Topics:
Investment and Capital Markets
Tags:
Asset,
Asset Management,
Asset Pricing,
Business Operations,
Operational Planning,
Return,
Theory,
Uncertainty
Source:
Massachusetts Institute of Technology

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Overview: The focus of this paper is on the implications of model uncertainty for the cross-sectional properties of returns. We perform our analysis in the context of a tractable single-period mean-variance framework. The paper shows that there is an uncertainty premium in equilibrium expected returns on financial assets and it studies how the premium varies across the assets. In particular, the cross-sectional distribution of expected returns can be formally described by a two-factor model, where expected returns are derived as compensation for the asset's contribution to the equilibrium risk and uncertainty of the market portfolio.

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Format: PDF | Size: 204KB | Date: Mar 2002 | Pages: 28

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