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Asset pricing with limited risk sharing and heterogeneous agents

By Francisco Gomes and Alexander Michaelides

Abstract

We develop a model with incomplete markets and heterogeneous agents that generates a large equity premium, while simultaneously matching stock market participation and individual asset holdings. The high risk-premium is driven by incomplete risk sharing among stockholders, which results from the combination of aggregate uncertainty, borrowing constraints, and a (realistically) calibrated life-cycle earnings profile subject to idiosyncratic shocks. We show that it is challenging to simultaneously match asset pricing moments and individual portfolio decisions, while limited participation has a negligible impact on the risk-premium, contrary to the results of models where it is imposed exogenously

Topics: HB Economic Theory
Publisher: Oxford University Press
Year: 2008
DOI identifier: 10.1093/rfs
OAI identifier: oai:eprints.lse.ac.uk:4820
Provided by: LSE Research Online
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