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Three solutions to the pricing kernel puzzle


Hens, Thorsten; Reichlin, Christian (2013). Three solutions to the pricing kernel puzzle. Review of Finance, 17(3):1065-1098.

Abstract

The pricing kernel is an important link between economics and finance. In standard models of financial economics, it is proportional to the aggregate marginal utility in the economy. We first show that none of the three standard assumptions (completeness, risk aversion, and correct beliefs) is needed for the pricing kernel to be generally decreasing. If at least one of the three assumptions is violated, the pricing kernel can have increasing parts. We explain the economic principles that lead to an increasing part in the pricing kernel and compare the resulting pricing kernels with the empirical pricing kernel estimated in Jackwerth (2000, Rev. Financ. Stud., 13, 433–451).

Abstract

The pricing kernel is an important link between economics and finance. In standard models of financial economics, it is proportional to the aggregate marginal utility in the economy. We first show that none of the three standard assumptions (completeness, risk aversion, and correct beliefs) is needed for the pricing kernel to be generally decreasing. If at least one of the three assumptions is violated, the pricing kernel can have increasing parts. We explain the economic principles that lead to an increasing part in the pricing kernel and compare the resulting pricing kernels with the empirical pricing kernel estimated in Jackwerth (2000, Rev. Financ. Stud., 13, 433–451).

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Citations

9 citations in Web of Science®
10 citations in Scopus®
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Additional indexing

Item Type:Journal Article, refereed, original work
Communities & Collections:03 Faculty of Economics > Department of Banking and Finance
Dewey Decimal Classification:330 Economics
Language:English
Date:1 July 2013
Deposited On:03 Mar 2014 08:28
Last Modified:05 Apr 2016 17:44
Publisher:European Finance Association
ISSN:1572-3097
Publisher DOI:https://doi.org/10.1093/rof/rfs008
Official URL:http://www.zora.uzh.ch/93696
Other Identification Number:merlin-id:9265

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