Title

An extension of the consumption-based CAPM model

Document Type

Working paper

Source Publication

CIRRELT

Publication Date

3-2012

Keywords

Consumption-based CAPM; risk premium, equity premium puzzle, expectation dependence, Ross risk aversion

Abstract

We extend the Consumption-based CAPM (C-CAPM) model to representative agents with different risk attitudes. We first use the concept of expectation dependence and show that for a risk averse representative agent, it is the first-degree expectation dependence (FED) rather than the covariance that determines C-CAPM’s riskiness. We extend the assumption of risk aversion to prudence and propose the measure of second-degree expectation dependence (SED) to obtain the values of asset price and equity premium. These theoretical results are linked to the equity premium puzzle. Using the same dataset as in Campbell (2003), the estimated measures of relative risk aversion from FED and SED approximations are much lower than those obtained in the original theoretical model is then generalized to higher-degree risk changes and higher-order risk averse representative agents.

Publisher Statement

Copyright © Dionne, Li, Okou and CIRRELT, 2012.

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Recommended Citation

Dionne, G., Li, J., & Okou, C. (2012). An extension of the consuption-based CAPM model (CIRRELT-2012-11). Canada: CIRRELT. Retrieved from https://www.cirrelt.ca/DocumentsTravail/CIRRELT-2012-11.pdf