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Working Paper
Life-Cycle Portfolio Choices and Heterogeneous Stock Market Expectations
Survey measurements of households’ expectations about U.S. equity returns show substantial heterogeneity and large departures from the historical distribution of actual returns. The average household perceives a lower probability of positive returns and a greater probability of extreme returns than history has exhibited. I build a life-cycle model of saving and portfolio choices that incorporates beliefs estimated to match these survey measurements of expectations. This modification enables the model to greatly reduce a tension in the literature in which models that have aimed to match ...
Working Paper
Insurers’ Investments and Insurance Prices
We develop a theory that connects insurance prices, insurance companies’ investment behavior, and equilibrium asset prices. Consistent with the model’s predictions, we show empirically that (1) insurers with more stable insurance funding take more investment risk and, therefore, earn higher average investment returns; (2) insurers set lower prices on policies when expected investment returns are higher, both in the cross-section of insurance companies and in the time series. Our results hold for both life insurance and property and casualty insurance companies. The findings show that ...
Working Paper
Labor-Market Uncertainty and Portfolio Choice Puzzles
The standard theory of household-portfolio choice is hard to reconcile with the following facts: (i) Households hold a small amount of equity despite the higher average rate of return. (ii) The share of risky assets increases with the age of the household. (iii) The share of risky assets is disproportionately larger for richer households. We develop a life-cycle model with age-dependent unemployment risk and gradual learning about the income profile that can address all three puzzles. Young workers, on average asset poor, face larger labor-market uncertainty because of high unemployment risk ...
Newsletter
How Interconnected Are Cryptocurrencies and What Does This Mean for Risk Management
In the past couple of years, the market for digital currencies, commonly known as cryptocurrencies because transactions are verified using cryptography, has expanded significantly in terms of transaction volumes, market capitalization, and the number of digital currencies in existence. On January 1, 2018, the market capitalizations (market caps1) of Bitcoin and Ethereum were $226 billion and $75 billion, respectively. By May 10, 2021, Bitcoin’s market cap had reached almost $1 trillion and Ethereum’s $478 billion.In this article, I measure the market’s interconnections in term of prices ...
Working Paper
Do Sustainable Investment Strategies Hedge Climate Change Risks? Evidence from Germany's Carbon Tax
It is difficult to assess the effectiveness of investment strategies that screen companies based on environmental criteria to hedge climate change risk because physical risks have not yet fully materialized and policies to combat climate change are usually widely anticipated. This paper sidesteps these limitations by analyzing the stock market response to plausibly exogenous changes in expectations about the level of a carbon tax in Germany. The risk-adjusted return on two sustainable investment approaches---screening companies based on environmental scores and on firms' carbon ...
Working Paper
Portfolio choice with house value misperception
Households systematically overvalue or undervalue their houses. We compute house value misperception as the difference between self-reported and market house values. Misperception is sizable, countercyclical, and persistent. We find that a 1 percent increase in house overvaluation results, on average, in a 4.56 percent decrease in the share of risky stock holdings for those households that participate in the stock market. We then build a rational inattention model in which households make decisions based on their perceived level of housing wealth. Numerical simulations generate the effects of ...
Report
News shocks, monetary policy, and foreign currency positions
Over the past two decades, before the global financial crisis, there was a rapid rise in the size of gross external portfolio positions as well as a decrease in the net negative foreign currency exposure in external balance sheets. In this paper, we present a theoretical model in which these portfolio facts can be explained by changes in monetary policy rules and the composition of shocks that underlie economic fluctuations. We find that policies with a strong emphasis on price stability would imply shorter positions in foreign currency when the dominant sources of fluctuations are supply ...
Working Paper
Monetary Policy over the Life Cycle
A tighter monetary policy is generally associated with higher real interest rates on depositsand loans, weaker performance of equities and real estate, and slower growth in employment andwages. How does a household’s exposure to monetary policy vary with its age? The size andcomposition of both household income and asset portfolios exhibit large variation over the lifecycle inJapanese data. We formulate an overlapping generations model that reproduces these observationsand use it to analyze how household responses to monetary policy shocks vary over the lifecycle. Boththe signs and the ...
Working Paper
Searching for Yield Abroad : Risk-Taking Through Foreign Investment in U.S. Bonds
The risk-taking effects of low interest rates, now prevailing in many advanced countries, "search-for-yield," can be hard to analyze due to both a paucity of data and challenges in identification. Unique, security-level data on portfolio investment into the United States allow us to overcome both problems. Analyzing holdings of investors from 36 countries in close to 15,000 unique U.S. corporate bonds between 2003 and 2016, we show that declining home-country interest rates lead investors to shift their portfolios toward riskier U.S. corporate bonds, consistent with "search-for-yield". We ...