How Do Investors' Expectations Drive Asset Prices? |
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Authors: | Erik Lü ders,Bernhard Peisl |
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Affiliation: | Center of Finance and Econometrics (CoFE), University of Konstanz Centre for European Economic Research (ZEW), Mannheim;Center of Finance and Econometrics (CoFE), University of Konstanz |
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Abstract: | Based on an extension of the process of investors' expectations to stochastic volatility we derive asset price processes in a general continuous time pricing kernel framework. Our analysis suggests that stochastic volatility of asset price processes results from the fact that investors do not know the risk of an asset and therefore the volatility of the process of their expectations is stochastic, too. Furthermore, our model is consistent with empirical studies reporting negative correlation between asset prices and their volatility as well as significant variations in the Sharpe ratio. |
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Keywords: | information process stochastic volatility pricing kernel forward-backward stochastic differential equations |
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