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Journal Article

Generalized Disappointment Aversion and Asset Prices

BRYAN R. ROUTLEDGE and STANLEY E. ZIN
The Journal of Finance
Vol. 65, No. 4 (AUGUST 2010), pp. 1303-1332
Published by: Wiley for the American Finance Association
Stable URL: http://www.jstor.org/stable/40864912
Page Count: 30
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Since scans are not currently available to screen readers, please contact JSTOR User Support for access. We'll provide a PDF copy for your screen reader.
Generalized Disappointment Aversion and Asset Prices
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Abstract

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.

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