The Paradox of asset pricing / Peter Bossaerts.

Format:

Book

Author/Creator:

Bossaerts, Peter L., 1960-

Series:

Frontiers of economic research

Language:

English

Subjects (All):

Capital assets pricing model.

Efficient market theory.

Securities.

Physical Description:

xiii, 170 pages : illustrations ; 25 cm.

Place of Publication:

Princeton, N.J. : Princeton University Press, 2002.

Summary:

Asset pricing theory abounds with elegant mathematical models. The logic is compelling that the models are widely used in policy, from banking, investments, and corporate finance to government. To what extent, however, can these models predict what actually happens in financial markets? In The Paradox of Asset Pricing, a leading financial researcher argues forcefully that the empirical record is weak at best. Peter Bossaerts undertakes the most thorough, technically sound investigation in many years into the scientific character of the pricing of financial assets. He probes this conundrum by modeling a decidedly volatile phenomenon that, he says, the world of finance has forgotten in its enthusiasm for the efficient markets hypothesis -- speculation.

Bossaerts writes that the existing empirical evidence may be tainted by the assumptions needed to make sense of historical field data or by reanalysis of the same data. To address the first problem, he demonstrates that one central assumption -- that markets are efficient processors of information, that risk is a knowable quantity, and so on -- can be relaxed substantially while retaining core elements of the existing methodology. The new approach brings novel insights to old data. As for the second problem, he proposes that asset pricing theory be studied through experiments in which subjects trade purposely designed assets for real money. This book will be welcomed by finance scholars and all those math- and statistics-minded readers interested in knowing whether there is science beyond the mathematics of finance.

Contents:

1 Principles of Asset-Pricing Theory

1.2 Stochastic Dynamic Programming 2

1.3 An Application to a Simple Investment-Consumption Problem 8

1.4 A Nontrivial Portfolio Problem 10

1.5 Portfolio Separation 11

1.6 Toward the First Asset-Pricing Model 15

1.7 Consumption-Based Asset-Pricing Models 17

1.8 Asset-Pricing Theory: The Bottom Line 21

1.9 Arrow-Debreu Securities Pricing 22

1.10 Roll's Critique 23

1.11 Time Nonseparable Preferences 24

1.12 Existence of Equilibrium 26

1.13 Price Discovery 28

2 Empirical Methodology

2.2 The Efficient Markets Hypothesis (EMH) 42

2.3 Violations of the Stationarity Assumption 46

2.4 Inference in a Nonstationary World 53

2.5 Testing the CAPM 55

2.5.1 A Linear Test 56

2.5.2 A Nonlinear Test 57

2.5.3 The Fama-MacBeth Procedure 58

2.5.4 Can One Condition on Less than the Entire State Vector in Tests of the CAPM? 59

2.6 Testing Consumption-Based Asset-Pricing Models 63

2.7 Diagnostics: Variance Bounds 66

3 The Empirical Evidence in a Nutshell

3.2 Empirical Evidence on the CAPM 72

3.3 Hansen-Jagannathan Bounds 83

3.4 GMM Tests of Consumption-Based Models 89

3.5 Cross-Sectional Tests 95

4 The Experimental Evidence

4.2 A Typical Asset-Pricing Experiment 107

4.3 Theoretical Predictions 110

4.4 Experimental Results 111

4.5 Announced and Perceived Uncertainty 116

4.6 The Scale of Experimentation 122

4.7 Formal Tests 124

4.7.1 The CAPM 124

4.7.2 The Arrow-Debreu Model 126

5 From EMH to Merely Efficient Learning

5.2 Bayesian Learning 137

5.3 Digital Option Prices under ELM 140

5.4 Limited Liability Security Prices under ELM 142

5.5 Revisiting an Earlier Example 147

6 Revisiting the Historical Record

6.2 U.S. IPO Aftermarket Performance 154.

Notes:

Includes bibliographical references and index.

ISBN:

0691090297 :

OCLC:

48221483