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Federal Reserve Bank of San Francisco
Working Paper Series
The Total Risk Premium Puzzle?
Oscar Jorda
Moritz Schularick
Alan M. Taylor
Abstract

The risk premium puzzle is worse than you think. Using a new database for the U.S. and 15 other advanced economies from 1870 to the present that includes housing as well as equity returns (to capture the full risky capital portfolio of the representative agent), standard calculations using returns to total wealth and consumption show that: housing returns in the long run are comparable to those of equities, and yet housing returns have lower volatility and lower covariance with consumption growth than equities. The same applies to a weighted total-wealth portfolio, and over a range of horizons. As a result, the implied risk aversion parameters for housing wealth and total wealth are even larger than those for equities, often by a factor of 2 or more. We find that more exotic models cannot resolve these even bigger puzzles, and we see little role for limited participation, idiosyncratic housing risk, transaction costs, or liquidity premiums.


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Oscar Jorda & Moritz Schularick & Alan M. Taylor, The Total Risk Premium Puzzle?, Federal Reserve Bank of San Francisco, Working Paper Series 2019-10, 20 Mar 2019.
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DOI: 10.24148/wp2019-10
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