A general equilibrium model of changing risk premia: theory and tests

We derive and test a dynamic discrete-time model of asset returns.Both the risks of individual securities and equilibrium riskpremia change predictably in the model, but these changes canbe attributed to movements in the returns and prices of onlytwo well-diversified portfolios. Any other components of returnsshould be unpredictable. Using the generalized method of moments,the model is estimated and tested on portfolios of equities.We find the data supportive of the model's restrictions, evenwhen instruments designed to capture the January effect areemployed.     

Multivariate binomial approximations for asset prices with nonstationary variance and covariance characteristics

In this article, we suggest an efficient method of approximatinga general, multivariate log-normal distribution by a multivariatebinomial process. There are two important features of such multivariatedistributions. First, the state variables may have volatilitiesthat change over time. Second, the two or more relevant statevariables involve may covary with each other in a specifiedmanner, with a time-varying covariance structure. We discussthe asymptotic properties of the resulting processes and showhow the methodology can be used to value a complex, multipleexerciseable option whose payoff depends on the prices of twoassets.     

The valuation of nonsystematic risks and the pricing of Swedish lottery bonds

Swedish government lottery bonds have coupon payments determinedby lottery. They offer a unique opportunity to study a securitywith uncertain payoffs having a known, observable distribution.The risk associated with the lotteries is idiosyncratic by constructionand should not command a risk premium in equilibrium. The bondsare traded in two forms, allowing us to evaluate the rewardsto bearing extra lottery risk. Despite its idiosyncratic nature,we find prices appear to reflect aversion to this risk. We evaluatethe empirical determinants of this differential pricing andpossible explanations for it.     

Risk aversion and the intertemporal behavior of asset prices

In this article, we characterize economies in which both cashflows and forward prices follow random walks. We show in thecase of geometric random walks that the preferences of the representativeinvestor are of the constant proportional risk-aversion type.We also show the conditions under which spot prices follow randomwalks and under which the equivalent martingale measure is non-state-dependent.     

Turn public problems to private account

Many managers face increasing calls to invest corporate resources in charitable causes. How should executives balance a firm's very real economic imperative to maximize profitability with its hypothetical moral imperative to improve society? To provide one answer, the author draws on his experience as president of an economic-development company, IBEC. Viewing profit as "an essential discipline and measure of economic success" but not "the sole corporate goal," the company actively invested in social programs that met four criteria: they served a need of the local population; they required innovative approaches; they made sense on economic grounds; and they respected the social norms of the community. Such civic-minded efforts, the author argues in this prescient 1971 article, not only improve people's lives but also create the foundation for more affluent and dynamic markets--markets that ultimately produce greater profits for business. For example, one of IBEC's earliest ventures was directed toward solving Venezuela's problems in retail food marketing. Many important items were unavailable at the small stores where people shopped. So in 1949, working with local partners, IBEC opened a supermarket. Supermarkets soon changed the food-buying habits of the nation, and the initiative helped alter patterns of food distribution and created the reliable demand needed to establish a host of local suppliers. Return on IBEC's investment, and that of its local partners, was most satisfactory, the author reports. The road to meeting a public need-especially a major one--is rarely easy, the author says. But if management sizes up the need well, there is a good chance its new venture will survive under adversity.