ABSTRACT
In this paper, we investigate the risks of cash flow news and discount rate news exposed to durable consumption. When utility is nonseparable in nondurable and durable consumption, the optimal portfolio allocation implies a linear factor model in nondurable and durable consumption growth. Using 30 portfolios sorted by book-to-market, momentum and size, we find that the differences in these betas account for more than 70% of the cross-sectional variation in the risk premia.
Disclosure Statement
No potential conflict of interest was reported by the authors.
Notes
1 The household stock of durable goods is related to its expenditure by
, where
is the depreciation rate and
is the expenditure of durable goods; Since the value of
is close to 1,
. Taking the log of both sides and approximating around
,
, where
is the log of
and
,
, and
are constant coefficients.
2 We also find that our explanatory variables are not soaked up by the Fama-French three or five factors empirically. The detailed results are available upon request.:
3 The linearization parameters and
are defined as
and
, respectively, and
is the time-series average of
.
4 If we set and
, our analysis reduces to the model in Bansal, Dittmar, and Lundblad (Citation2005).
5 Due to space limitations, we do not report the results for the decomposition of characteristic-sorted portfolios here.
6 We also run the out-of-sample regression for each portfolio, and find that our model can obtain a satisfactory , defined in Campbell and Thompson (Citation2008). Due to space limit, we do not report them in details.