Working Paper

A Robust Capital Asset Pricing Model

Abstract: We build a market equilibrium theory of asset prices under Knightian uncertainty. Adopting the mean-variance decisionmaking model of Maccheroni, Marinacci, and Ruffino (2013a), we derive explicit demands for assets and formulate a robust version of the two-fund separation theorem. Upon market clearing, all investors hold ambiguous assets in the same relative proportions as the assets' market values. The resulting uncertainty-return tradeoff is a robust security market line in which the ambiguous return on an asset is measured by its beta (systematic ambiguity). A simple example on portfolio performance measurement illustrates the importance of writing ambitious, robust asset-pricing models.

Keywords: Model uncertainty; Mean-variance portfolio-selection theory; Two-fund separation theorem; capital asset pricing model;

Bibliographic Information

Provider: Board of Governors of the Federal Reserve System (U.S.)

Part of Series: Finance and Economics Discussion Series

Publication Date: 2014-01

Number: 2014-01