Questions tagged [asset-pricing]

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148 views

Trade anything?

I have a question after reading the post below. https://www.onlinebetting.org.uk/betting-guides/can-you-bet-on-anything-you-want.html Question: I want to bet on a niche topic or asset or anything that ...
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0answers
48 views

J-stat question on Linear Factor Models + Simulation, Wald test

I am exploring the wonderful library by K. Sheppard et al. on linear models applied to asset pricing. In particular, Fama Macbeth and two-step regression (leaving GMM for later) My question is ...
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41 views

Is the initial value of the portfolio replicating a forward zero?

This is from the book Financial Calculus: An Introduction to Derivative Pricing by Martin Baxter. By choosing appropriate weights in a portfolio of a stock and cash bond you can replicate the payoff ...
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1answer
91 views

Carhart 4 factor model and six factor model

The value of SMB of Fama French 3 factor model is calculated as follows: $$ \frac{1}{3} (Small Value + Small Neutral + Small Growth) - \frac{1}{3} (Big Value + Big Neutral + Big Growth). $$ However, ...
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3answers
281 views

Asset Pricing and Negative Prices

I am running an asset pricing study. The data is from 1990 to 2020. When the data is adjusted for dividends and splits, stock prices of several firms become negative. How does one handle negative ...
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34 views

Fama and French HML and SMB factors

I am investigating the Fama and French model using a Bayesian selection procedure laid out by Barillas and Shanken (2018). When I plot the cumulative probabilities of each factor, I notice that for ...
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21 views

Fama French: daily or weekly returns?

I am conducting a performance comparison analysis among sustainable and conventional mutual funds. I want to analyse the last 6 years and focus also on the subperiod of the COVID-19 crisis. I have ...
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1answer
53 views

Fama French regression with dummy variable

I am looking to run Fama-French regression on a portfolio of stocks. I am looking to specify a regime using a dummy variable. This dummy variable could be a low volatility/ high volatility marker. ...
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0answers
158 views

Determining decomposition long bond yields via Fisher equation and the Expectations Hypothesis 2.0

I've started to get into the weed of UST pricing and was hoping to get some feedback on a "model" I thought about. It is presented in this blog post. https://nonlinearexpectations.blogspot....
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1answer
52 views

Replicating Portfolio / Complete Market / Attainable Claim

Attempt So Far: 1) First Part: I have shown that the market is arbitrage-free since the only possible portfolio for which $V_1^h\geq0 \ $ given that $V_0^h=0 \ $ is $h=(0,0,0)$ and this clearly ...
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1answer
72 views

Feynman-Kac representation of Black-Cox model

Consider the standard setup from Black and Cox (1976, Journal of Finance). A firm issues a defaultable coupon bond to finance a productive asset that follows a geometric brownian motion: $$dx_t = \mu ...
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1answer
59 views

Cauchy-Euler ODE with indicator function in coefficient

Consider the following Cauchy-Euler ODE, which is in particular the asset pricing equation for a (perpetual coupon defaultable) bond: $$\frac12 \sigma^2 V^2 F_{vv}(V,t) + \mu V F_{v}(V,t) - r F(V,t) + ...
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29 views

Derivation defaultable bond price in Leland 1994 (Merton)

Consider the model in Leland (Journal of Finance, 1994). The partial differential equation that describes the price of the (perpetual coupon defaultable) bond is: $$\frac12 \sigma^2 V^2 F_{vv}(V,t) + \...
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0answers
98 views

Pricing kernel representation

I am reading this paper https://mpra.ub.uni-muenchen.de/4969/1/MPRA_paper_4969.pdf pp.6-7 on discrete-time bond pricing. The model adopted is a a common affine model, the short rate follows \begin{...
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86 views

Some basic questions using consumption CAPM

Say we are in a world described by the consumption CAPM. All investors in this world have quadratic utility. Also, assume that consumption is as follows: $$c_{t+1} = (1+m_t)c_t + s_t c_t e_{t+1} $$ ...
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2answers
79 views

Why in Fama-French factor model relative market capitalization and book-to-market aren't used directly for predicting return rate?

Fama and French use the following formula for predicting stock returns \begin{align*} r=r_{riskfree} + \beta_1(r_{market}-r_{riskfree})+\beta_2(SMB)+\beta_3(HML) \end{align*} which basically means ...
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2answers
144 views

Pricing binary options

A binary option pays an amount of money if an event takes place and zero otherwise. Binary options are usually used to insure portfolios against large drops in the stock market. On March 25, 2021 the ...
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16 views

Inflation and growth due to inflation canceling out in cap rate formula?

A cap rate can be described as: K = RFRr + i + RPi + RPp – Gr – Gi + D Where K = cap rate RFRr is the real risk free rate, or index-linked bond i = average expected inflation RPi = the inflation risk ...
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2answers
108 views

How does one actually create a derivative of a given underlying security? [closed]

Let's say I'm an investment bank and I want to create a derivative whose value tracks that of gold. I don't want this derivative to in any way trade in the underlying security, so no futures or ...
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1answer
80 views

Misconception about replicating portfolio [closed]

I am solving a problem in which following payoff is provided: With $S_0=100$ and $T=8$. Looking at the payoff it seems obvious that it is replicated with two european put options ($K=100$ and $K=150$)...
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0answers
48 views

Alpha - Time Series vs Cross Section Approach

I am currently reading Cochranes book on asset pricing. However, I get confused about one thing. He says that one could test a factor model (I will use the CAPM, just as he does), via a time series ...
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1answer
133 views

Does CRR Model lose completeness if we add another instrument?

Consider the multiperiod binomial/CRR model with one risky asset $S^{1}$ and a numeraire $S^{0}$. By seeing that the equivalent martingale measure is uniquely determined, we obtain that the market is ...
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40 views

Hypothetic derivative that absorbs underlying volatility

Market participants are usually assumed to be risk-averse and striving to improve the Sharpe ratios of their portfolios. Thus, if we have an asset A, which is expected to return between \$900 and \$...
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0answers
77 views

SDF derivation by a stochastic process

I have a stochastic process to model the stochastic discount factor (SDF) with M: \begin{equation} dM_t = aM_tdt + bM_t d Z_t \end{equation} where, $Z_t$ is a standard brownian motion. How do I show ...
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3answers
125 views

How to calculate a Corporate Bond Transaction Price (Bond returns?)?

I am struggling with the concepts and variables of corporate bonds returns. Bai, Bali and Wen (2019) define monthly corporate bond returns as: Where where is transaction price, , is accrued ...
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5answers
390 views

What mechanisms does the market use to brining an asset back to the market line, as defined by CAPM?

The Capital Asset Pricing Model (CAPM) model states that, on efficient market, expected return of an asset should be given by a linear function of its volatility (as measure by standard deviation of ...
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0answers
63 views

linear stochastic discount factor

I have heard some people say something like the following with regards to APT: Let returns be given by the factor model $r_t = B_tf_t + e$ with $E(f_t) = \lambda_t$ Assume that factors are ...
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1answer
1k views

Is market price of risk always negative?

I might have a gap in understanding, so clarifying: Basic pricing equation $E(R) = - cov(m, R)$ where $R$ = excess return and $m$ = stochastic discount factor (I think this is continuous case, in ...
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1answer
441 views

Anyone has detailed explanation on how to use epstein-zin preferences in asset pricing models

I'd be interested to know how Epstein-Zin preferences are used in, say, consumption-based asset pricing models. I'm looking for specific derivations (how you get the SDF) and possible numerical ...
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1answer
328 views

Covariance, stochastic discount factor (SDF) and risk aversion

John Cochrane states, that if the covariance between the stochastic discount factor and the payoff is zero - then risk aversion should have no impact on the pricing. I do not fully understand why this ...
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1answer
113 views

SML Interpretation

I follow this paper and estimated two different asset pricing models via systems of deep neural networks. Both models have the exact same input: firm-specific features for 10'000 (unique) US stocks ...
3
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1answer
188 views

Why are some metals in contango (inverted) forward curve and some in backwardation (normal) forward curve?

I am scrolling through the various metals on lme.com and some are in contango and some in backwardation. For example: Copper: backwardation Aluminium: contango Further examination of other metals ...
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46 views

By how much do specific asset correlations increase during a market downturn?

It is well-known that asset return correlations of stocks increase during market downturns. But are there any general properties derived from empirical observation or evidence regarding by how much ...
3
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1answer
202 views

ETF pricing papers

May I request for research paper recommendations, if any, on existing models that study how the presence of ETFs affect equilibrium prices of the underlying assets? I am exploring a project on a ...
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0answers
29 views

No Arbitrage condition for assets with different time frame

In the classic literature, one always assumes that the assets in the market are all available from the very beginning ($t=0$). And under such condition the market is arbitrage free iff there exists an ...
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64 views

Stocks with same volatility but different drifts

In the book Quant Job Interview Questions & Answers, in section 2, question 2.4 says suppose two assets in a Black-Scholes world have the same volatility but different drifts. How will the price ...
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1answer
395 views

What are industry fixed effects?

I have come across the term "industry fixed effects" in some papers in relation to cross sectional regressions in asset pricing. I know what "fixed" regression models are, but not ...
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1answer
87 views

How is CAPM used to price an asset once it has been used to derive the assets expected return?

As I understand it (correct me if I'm wrong) the theoretical price of an asset should be the present value of all future cash-flows that it is expected to yield, discounted at the risk-free rate. I am ...
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0answers
46 views

Question on the details of certain parameters in Sharpe Ratio [closed]

I'm puzzled about certain parameters in calculating the annualized Sharpe Ratio using monthly return data. Average excess return: Does this mean the arithmetic average of all the monthly excess ...
2
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2answers
325 views

Cashflow Risk vs Discount Risk

Studying asset pricing, I often hear the terms cashflow risk and discount risk but I'm not sure what they mean? The Campbell/Shiller (1988) decomposition includes cashflows (future dividends) and ...
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1answer
110 views

Vasicek model - Bond price and volatility

Why does the bond price under the Vasicek model increase as the rate volatility increases? What is the intuition behind this?
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2answers
384 views

Clean vs dirty price for bonds

Why the clean price is mostly quoted in the US bond markets and the dirty price is mostly quoted in the European bond markets?
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1answer
91 views

How to simulate asset prices/returns that display market regimes?

Are there any techniques that can make a multivariate random number generating process for stock prices/returns, like geometric Brownian motion via Cholesky, also include the simulation of a finite ...
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0answers
38 views

Some questions to canonical correlations between principle components and asset pricing factors using R

I have done a asympotical principle component analysis (APCA), using eigen() in R, of the covariance matrix of a global dataset of excess returns. I took the ...
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0answers
45 views

Use of Macaulay Duration to calculate the Funds Transfer Pricing Cost of an Amortizing Mortgage

I am asked to comment on the Funds Transfer Pricing methodology used by our Treasury to assign a Cost of Funds to a Loan. This is the current methodology: Let us say there is a 2 year loan with an ...
3
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1answer
226 views

GRS Test in R with robust residuals

I'm testing certain asset pricing factor models (e.g. Fama and French 3 factor model) and want to check if the alphas of my time series regressions are jointly zero. Most papers use the Gibbons, Ross,...
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3answers
317 views

SDF as an affine transformation of the tangency portfolio

I'm studying this paper. In the formulation of the theoretical setup they state: Our goal is to explain the differences in the cross-section of returns $R$ for individual stocks. Let $R_{t+1, i}$ ...
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75 views

Arbitrage strategy from Arrow Securities

I had this exercise and I calculated the prices of the Arrow Securities, π1 = 0.5 and π2 = -0.2. I know that π2 is not arbitrage-free because -0.2 < 0, but I do not understand that how to interpret ...
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1answer
121 views

Can we use risk-neutral pricing to price a stock or a bond?

Can you please tell me whether if I can used risk-neutral pricing approach to price a stock or a bond ? (i.e. discount with risk free rate the future cashflows) ? Thank you very much!
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873 views

Asset pricing textbooks

What are some asset pricing textbooks that give a solid introduction into the field? I suggest one textbook per answer with a list of its pros and cons.

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