Generalized Recovery

David Lando, Lasse Heje Pedersen, Christian Skov Jensen

Research output: Working paperResearch

Abstract

We characterize when physical probabilities, marginal utilities, and the discount rate can be recovered from observed state prices for several future time periods. We make no assumptions of the probability distribution, thus generalizing the time-homogeneous stationary model of Ross (2015). Recovery is feasible when the number of maturities with observable prices is higher than the number of states of the economy (or the number of parameters characterizing the pricing kernel). When recovery is feasible, our model is easy to implement, allowing a closed-form linearized solution. We implement our model empirically, testing the predictive power of the recovered expected return and other recovered statistics.
Original languageEnglish
Place of PublicationLondon
PublisherCentre for Economic Policy Research
Number of pages66
Publication statusPublished - 2018
SeriesCentre for Economic Policy Research. Discussion Papers
NumberDP12665
ISSN0265-8003

Keywords

  • Asset pricing theory
  • Financial economics
  • Pricing kernel
  • Risk aversion

Cite this

Lando, D., Pedersen, L. H., & Jensen, C. S. (2018). Generalized Recovery. Centre for Economic Policy Research. Centre for Economic Policy Research. Discussion Papers, No. DP12665 https://cepr.org/active/publications/discussion_papers/dp.php?dpno=12665#