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Idiosyncratic risk and the equity premium

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  • Carvajal, Andrés
  • Zhou, Hang

Abstract

This paper aims to further our understanding of the effect of idiosyncratic risk on the equity premium. We consider different classes of preferences and different co-variations between the idiosyncratic shocks’ variance and the economy’s aggregate income. We offer a complete characterization of the effect for short-lived assets relying on the cross-moments of different utility function derivatives and the economy’s aggregate income. We also study the effects of higher-order moments of the distribution of idiosyncratic risk.

Suggested Citation

  • Carvajal, Andrés & Zhou, Hang, 2024. "Idiosyncratic risk and the equity premium," Journal of Mathematical Economics, Elsevier, vol. 113(C).
    • Handle: RePEc:eee:mateco:v:113:y:2024:i:c:s0304406824000740
    DOI: 10.1016/j.jmateco.2024.103014
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    More about this item

    Keywords

    Equity premium; Idiosyncratic risk; Higher-order risk aversion;
    All these keywords.

    JEL classification:

    • D01 - Microeconomics - - General - - - Microeconomic Behavior: Underlying Principles
    • D50 - Microeconomics - - General Equilibrium and Disequilibrium - - - General
    • D53 - Microeconomics - - General Equilibrium and Disequilibrium - - - Financial Markets

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