The equity risk premium a solution

Rietz, Thomas A.

doi:10.1016/0304-3932(88)90172-9

Cited by 1,298 publications

(821 citation statements)

References 3 publications

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“…A solution for this puzzle is that infrequent large crashes occur or even a major still untriggered crash is looming over us; in this interpretation, the "anomalous" return becomes the normal remuneration for the risk to stay invested in the market [40]. Our analysis suggests that the situation is even worse than this: not only the market has a large growth rate but this growth rate is accelerating such that the market is growing as a power law towards a spontaneous singularity.…”

Section: Discussionmentioning

confidence: 87%

Finite-time singularity in the dynamics of the world population, economic and financial indices

Johansen

Sornette

2001

Physica A: Statistical Mechanics and its Applications

179

154

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Contrary to common belief, both the Earth's human population and its economic output have grown faster than exponential, i.e., in a super-Malthusian mode, for most of the known history. These growth rates are compatible with a spontaneous singularity occuring at the same critical time 2052 ± 10 signaling an abrupt transition to a new regime. The degree of abruptness can be infered from the fact that the maximum of the world population growth rate was reached in 1970, i.e., about 80 before the predicted singular time, corresponding to approximately 4% of the studied time interval over which the acceleration is documented. This rounding-off of the finite-time singularity is probably due to a combination of wellknown finite-size effects and friction and suggests that we have already entered the transition region to a new regime. In theoretical support, a multivariate analysis coupling population, capital, R&D and technology shows that a dramatic acceleration in the population during most of the timespan can occur even though the isolated dynamics do not exhibit it. Possible scenarios for the cross-over and the new regime are discussed. IntroductionBoth the world economy as well as the human population have grown at a tremendous pace especially during the last two centuries. It is estimated that 2000 years ago the population of the world was approximately 300 million and for a long time the world population did not grow significantly, since periods of growth were followed by periods of decline. It took more than 1600 years for the world population to double to 600 million and since then the growth has accelerated. It reached 1 billion in 1804 (204 years later), 2 billion in 1927 (123 years later), 3 billion in 1960 (33 years later), 4 billion in 1974 (14 years later), 5 billion in 1987 (13 years later) and 6 billion in 1999 (12 years later). This rapidly accelerating growth has raised sincere worries about its sustainability as well as concerns that we humans as a result might cause severe and irreversible damage to eco-systems, global weather systems etc [6,22]. At, what one may say the other extreme, the optimists expect that the innovative spirit of mankind will be able to solve the problems associated with a continuing increase in the growth rate [15,46]. Specifically, they believe that the world economic development will continue as a successive unfolding of revolutions, e.g., the Internet, bio-technological and other yet unknown innovations, replacing the prior agricultural, industrial, medical and information revolutions of the past. Irrespective of the interpretation, the important point is the presence of an acceleration in the growth rate. Here, it is first shown that, contrary to common belief, both the Earth human population as well as its economic output have grown faster that exponential for most of the known history and most strikingly so in the last centuries. Furthermore, we will show that both the population growth rate and the economic growth rate are consistent with a spontaneous singula...

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Section: Discussionmentioning

confidence: 87%

Finite-time singularity in the dynamics of the world population, economic and financial indices

Johansen

Sornette

2001

Physica A: Statistical Mechanics and its Applications

179

154

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“…The literature going back to Kraus and Litzenberger (1976), and including more recently Harvey and Siddique (2000), Ang, Hodrick, Xing and Zhang (2006), Ang, Cheng and Xing (2006) and Xing, Zhang and Zhao (2010), suggests that the asymmetry of the returns distribution both for individual stocks and for the market as a whole is important for asset pricing and investment management. Skewness is central to the debate on the role of large rare disasters in explaining the equity risk premium (Rietz (1988), Longstaff and Piazzesi (2004), Barro (2009), andBackus, Chernov andMartin (2011)). Carr and Wu (2007) document the time varying implied skew in foreign exchange markets, and Brunnermeier, Nagel and Pedersen (2008) relate the forward premium puzzle to the skewed distribution of currency returns.…”

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confidence: 99%

“…These findings are relevant to the debate on the role of large disasters in explaining the equity premium. In reviewing the evidence, Backus, Chernov andMartin (2011, p1970, "BCM") note that "in virtually all of this research [starting with Rietz (1988), followed by Longstaff and Piazzesi (2004), Barro (2009) and others], the distribution [of log returns] is modeled by combining a normal component with a jump component. The jump component, in this context, is simply a mathematical device that produces nonnormal distributions".…”

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confidence: 99%

Realized Skewness

2012

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“…At that time, the Tokyo Stock Exchange was shut down for almost four years reopening with a loss of more than 90%. Rietz (1988) and Barro (2005), among others, emphasize that these kinds of events can have a significant impact on security prices in an economy. For this reason, we wish to quantify the investor's utility gain expressed in terms of his initial capital when he is able to trade even in the illiquidity state.…”

Section: Numerical Illustrationsmentioning

confidence: 99%

“…In particular, Rietz (1988) and recently Barro (2005) point out that the puzzle can (partly) be resolved if investors take into consideration the potential for a rare economic disaster occurring with a small probability. Barro (2005) writes that "a worthwhile extension would deal more seriously with the dynamics of crisis regimes".…”

Section: Introductionmentioning

confidence: 99%

Asset allocation and liquidity breakdowns: what if your broker does not answer the phone?

2009

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This paper analyzes the portfolio decision of an investor facing the threat of illiquidity. In a continuous-time setting, the efficiency loss due to illiquidity is addressed and quantified. We show that the efficiency loss for a logarithmic investor with 30 years until the investment horizon is a significant 22.7% of current wealth if the illiquidity part of the model is calibrated to the Japanese data of the aftermath of WW II. Furthermore, it is demonstrated that the threat of illiquidity can change the demand for risky securities tremendously and that a logarithmic investor will not behave myopically anymore.

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The equity risk premium a solution

Cited by 1,298 publications

References 3 publications

Finite-time singularity in the dynamics of the world population, economic and financial indices

Finite-time singularity in the dynamics of the world population, economic and financial indices

Realized Skewness

Asset allocation and liquidity breakdowns: what if your broker does not answer the phone?

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