The Journal of Finance

Generalized Disappointment Aversion and Asset Prices

Published: 07/15/2010   |   DOI: 10.1111/j.1540-6261.2010.01571.x

BRYAN R. ROUTLEDGE, STANLEY E. ZIN

We characterize generalized disappointment aversion (GDA) risk preferences that can overweight lower‐tail outcomes relative to expected utility. We show in an endowment economy that recursive utility with GDA risk preferences generates effective risk aversion that is countercyclical. This feature comes from endogenous variation in the probability of disappointment in the representative agent's intertemporal consumption‐saving problem that underlies the asset pricing model. The variation in effective risk aversion produces a large equity premium and a risk‐free rate that is procyclical and has low volatility in an economy with a simple autoregressive endowment‐growth process.

Sources of Entropy in Representative Agent Models

Published: 08/12/2013   |   DOI: 10.1111/jofi.12090

DAVID BACKUS, MIKHAIL CHERNOV, STANLEY ZIN

We propose two data‐based performance measures for asset pricing models and apply them to models with recursive utility and habits. Excess returns on risky securities are reflected in the pricing kernel's dispersion and riskless bond yields are reflected in its dynamics. We measure dispersion with entropy and dynamics with horizon dependence, the difference between entropy over several periods and one. We compare their magnitudes to estimates derived from asset returns. This exercise reveals tension between a model's ability to generate one‐period entropy, which should be large, and horizon dependence, which should be small.