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Expectations and aggregate risk

Author

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  • Bretscher, Lorenzo
  • Malkhozov, Aytek
  • Tamoni, Andrea

Abstract

We estimate agents’ expectations about future fundamentals using a dynamic stochastic general equilibrium model augmented with anticipated shocks. Accounting for agents’ expectations at the business cycle horizon results in aggregate risk factor innovations that have significant explanatory power for the cross section of stock and bond returns. Further, risk arising from macroeconomic fluctuations driven by expectation shocks is important to explain the value premium. Overall, expectations emerge as key to the link between financial markets and the real economy.

Suggested Citation

  • Bretscher, Lorenzo & Malkhozov, Aytek & Tamoni, Andrea, 2021. "Expectations and aggregate risk," Journal of Monetary Economics, Elsevier, vol. 123(C), pages 91-108.
    • Handle: RePEc:eee:moneco:v:123:y:2021:i:c:p:91-108
    DOI: 10.1016/j.jmoneco.2021.08.001
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    More about this item

    Keywords

    News shocks; Consumption-CAPM; Cross section of asset returns;
    All these keywords.

    JEL classification:

    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • E32 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Business Fluctuations; Cycles
    • E21 - Macroeconomics and Monetary Economics - - Consumption, Saving, Production, Employment, and Investment - - - Consumption; Saving; Wealth
    • C63 - Mathematical and Quantitative Methods - - Mathematical Methods; Programming Models; Mathematical and Simulation Modeling - - - Computational Techniques

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