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Jel Classification:G17 

Working Paper
From Which Consumption-Based Asset Pricing Models Can Investors Profit? Evidence from Model-Based Priors

This paper compares consumption-based asset pricing models based on the forecasting performance of investors who use economic constraints derived from the models to predict the equity premium. Three prominent asset pricing models are considered: Habit Formation, Long Run Risk, and Prospect Theory. I propose a simple Bayesian framework through which the investors impose the economic constraints as model-based priors on the parameters of their predictive regressions. An investor whose prior beliefs are rooted in the Long Run Risk model achieves more accurate forecasts overall. The greatest ...
Finance and Economics Discussion Series , Paper 2016-027

Working Paper
Assessing Abenomics: Evidence from Inflation-Indexed Japanese Government Bonds

We assess the impact of news concerning the reforms associated with ?Abenomics? using an arbitrage-free term structure model of nominal and real yields. Our model explicitly accounts for the deflation protection enhancement embedded in Japanese inflation-indexed bonds issued since 2013, which pay their original nominal principal when deflation has occurred from issue to maturity. The value of this enhancement is sizable and time-varying, with substantive impacts on estimates of expected inflation compensation. After properly accounting for deflation protection, our results suggest that ...
Working Paper Series , Paper 2019-15

Working Paper
Mandatory Disclosure and Financial Contagion

This paper analyzes the welfare implications of mandatory disclosure of losses at financial institutions when it is common knowledge that some banks have incurred losses but not which ones. We develop a model that features contagion, meaning that banks not hit by shocks may still suffer losses because of their exposure to banks that are. In addition, we assume banks can profitably invest funds provided by outsiders, but will divert these funds if their equity is low. Investors thus value knowing which banks were hit by shocks to assess the equity of the banks they invest in. We find that when ...
Working Paper Series , Paper WP-2014-4

Working Paper
End of an era: The coming long-run slowdown in corporate profit growth and stock returns

I show that the decline in interest rates and corporate tax rates over the past three decades accounts for the majority of the period's exceptional stock market performance. Lower interest expenses and corporate tax rates mechanically explain over 40 percent of the real growth in corporate profits from 1989 to 2019. In addition, the decline in risk-free rates alone accounts for all of the expansion in price-to-earnings multiples. I argue, however, that the boost to profits and valuations from ever-declining interest and corporate tax rates is unlikely to continue, indicating significantly ...
Finance and Economics Discussion Series , Paper 2023-041

Working Paper
Term Premium Variability and Monetary Policy

Two traditional explanations for the mean and variability of the term premium are: (i) time-varying risk premia on long bonds, and (ii) segmented markets between long- and short-term bonds. This paper integrates these two approaches into a medium-scale DSGE model. We consider two sources of business cycle variability: shocks to total factor productivity (TFP), and shocks to the marginal efficiency of investment (MEI). The ability of the risk approach to match the first moment of the term premium depends upon the relative importance of these two shocks. If MEI shocks are an important driver of ...
Working Papers (Old Series) , Paper 1611

Report
Simple and reliable way to compute option-based risk-neutral distributions

This paper describes a method for computing risk-neutral density functions based on the option-implied volatility smile. Its aim is to reduce complexity and provide cookbook-style guidance through the estimation process. The technique is robust and avoids violations of option no-arbitrage restrictions that can lead to negative probabilities and other implausible results. I give examples for equities, foreign exchange, and long-term interest rates.
Staff Reports , Paper 677

Working Paper
The Missing Tail Risk in Option Prices

This paper contributes to the literature on deviations from rational expectations in financial markets and to the literature on evaluating density forecasts. We first develop a novel statistic to evaluate the overall accuracy of distributional forecasts, and find two methods that yield accurate distributional forecasts. We then propose another statistic to examine the relative accuracy over the entire distribution range. Our results indicate more oil price realizations in the left tail than predicted. We argue that this finding points to a persistent behavioral forecasting bias and a ...
Research Working Paper , Paper RWP 23-02

Working Paper
Accounting for Low Long-Term Interest Rates: Evidence from Canada

In recent decades, long-term interest rates around the world have fallen to historic lows. We examine this decline using a dynamic term structure model of Canadian nominal and real yields with adjustments for term, liquidity, and inflation risk premiums. Canada provides a useful case study that has been little examined despite its established indexed debt market, negligible distortions from monetary quantitative easing or the zero lower bound, and no sovereign credit risk. We find that since 2000, the steady-state real interest rate has fallen by more than 2 percentage points, long-term ...
Working Paper Series , Paper 2020-35

Report
Risk-neutral systemic risk indicators

This paper describes a set of indicators of systemic risk computed from current market prices of equity and equity index options. It displays results from a prototype version, computed daily from January 2006 to January 2013. The indicators represent a systemic risk event as the realization of an extreme loss on a portfolio of large-intermediary equities. The technique for computing them combines risk-neutral return distributions with implied return correlations drawn from option prices, tying together the single-firm return distributions via a copula to simulate the joint distribution and ...
Staff Reports , Paper 607

Report
Flighty liquidity

We study how the risks to future liquidity flow across corporate bond, Treasury, and stock markets. We document distribution ?flight-to-safety? effects: a deterioration in the liquidity of high-yield corporate bonds forecasts an increase in the average liquidity of Treasury securities and a decrease in uncertainty about the liquidity of investment-grade corporate bonds. While the liquidity of Treasury securities both affects and is affected by the liquidity in the other two markets, corporate bond and equity market liquidity appear to be largely divorced from each other. Finally, we show that ...
Staff Reports , Paper 870

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Smolyansky, Michael 5 items

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