Empirical Asset Pricing Prof. John H. Cochrane Econ 39200
/ GSB 35905
Latest update: March 12 2007.
Documents – problem sets, lecture notes, etc.
Announcements
Problem set 4 due on Friday of 10th
week, not with final exam. This lets you read the solutions before the exam.
Please place your problem set in my mailbox in HPC 2nd floor.
Important: if you are reading this and have not received an email, email me now to get on the class email list.
12/28 slight update to problem set 1. Get the new version.
12/29 pictures for first class posted
1/09 updated the pictures to include second week material.
Overview
This class follows 35904 as the second course in the three-quarter GSB PhD sequence. This class and GSB 35906 / Econ 39600 (topics in asset pricing) in the spring will be taught jointly by myself, Lars Hansen and John Heaton. These classes cover “core” asset pricing material. Hansen, Heaton and I will also teach a complementary “Topics course” Econ 39502 in the spring. Here’s the approximate schedule :
Winter: GSB35905/Ec39200
Week 1-7 Cochrane.
Week 8-10 Hansen.
Spring GSB35906/Ec39600
Week 1-3 Hansen
Week 4-10 Heaton
Spring Ec 39502 (Advanced topics)
Week 1-3 Cochrane.
Week 4-6 Hansen
Week 7-10 Heaton
However, GSB35905/Ec39200 and GSB35906/Ec39600 are administratively two separate courses; you will get two (not three) grades, you have to do all of each course to get credit, and there is nothing stopping you from taking one without the other. Ec 39502 is (of course) a completely separate course, and also aimed at third-year (or more) students interested in its more eclectic selection of topics.
Mechanics
The class will center on reading and discussion of articles and problem sets. You must read and think about the readings before class, and be ready to discuss the readings in class. I will call on you and occasionally ask students to lead discussions on papers or parts of papers. You should be ready to do this.
Grades will reflect class participation, homework, and an exam. Bring a name card to every class if you want class participation grades.
You will need a copy of my Asset Pricing, preferably the revised edition with no (known) typos. The articles will be available as pdfs from the class website. You need to be able to do empirical work. I recommend matlab and can help with it, but use what you want. You need to be able to get crsp data from wrds. Figure out how to do it.
1. Predictable
Returns, present value relations, and volatility.
Week 1: Return
predictability, volatility, present value relations, price and return
decompositions, VAR representation
Week 2: a) Econometric issues in return predictability. b) Bond return predictability
·
Cochrane, John H. The
Dog that Did Not Bark: A Defense of
Return Predictability. Forthcoming, Review of Financial Studies.
·
Cochrane, John H. and Monika Piazzesi, Bond
Risk Premia March
2005, American Economic Review
95:1, 138-160. And web Appendix
with extra analysis
Week
3a) Predictability and volatility of foreign exchange.
·
Burnside, Craig, Martin Eichenbaum and
Sergio Rebelo, 2006, “The Returns to
Currency Speculation,” Manuscript
Read p. 1-17 now. I’m using this paper as an
update on the facts about fx predictability. If you take the spring quarter
topics class, we’ll read p. 17 on to think about whether the “price pressure”
explanation means anything.
This is an international version of Hansen-Jagannathan bounds. Here, it highlights the puzzle that exchange rates are too volatile. Together with the fact that savings = investment (not much international lending, unless you ask the IMF which thinks there is too much “global imbalance”) these are the three great puzzles of international finance.
2. Cross-sectional facts review
Size, B/M, momentum, accounting sorts, in expected returns and covariances
Week 3b:
3. Dynamic portfolio theory
Week 4
·
Cochrane, John, “Portfolio
Advice for a Multifactor World” Economic Perspectives Federal Reserve Bank of
I plan to cover the
main material – static portfolio theory, classic intertemporal (Merton)
portfolio theory, state-price approach, solutions for time-varying expected
returns, and the applied questions, how much “hedging demand” changes the
static bond/stock allocation, should long-horizon investors hold more stocks,
and how much market timing should one do, in
Week 5
I think that static
choice of managed portfolios is the future of this effort, so we’ll read two
papers on that:
·
Cochrane, John H. “A
Mean-Variance Benchmark for Intertemporal Portfolio Theory” December 2005
·
Brandt, Michael, and Pedro Santa-Clara
2006, “Dynamic Portfolio
Selection by Augmenting the Asset Space” Journal of Finance 61 2187-2218
One paper to make
the important Bayesian point
Finally, a little paper motivated by a classic portfolio
theory puzzle: If stocks go up, people want to rebalance. But we can’t all
rebalance, so what happens? It’s also good to get in a habit of thinking in
general equilibrium terms,
·
Cochrane,
John H., Francis Longstaff and Pedro Santa-Clara, 2006, “Two Trees: Asset Price Dynamics Induced by
Market Clearing”
4. Utility functions and Risk Premia
Week 6
a. Overview first, then some models in depth
Week 7
b. Habits
·
Campbell,
John Y., and John H. Cochrane, “Explaining
the Poor Performance of Consumption-Based Asset Pricing Models”, Journal
of Finance 55,6 (December 2000): 2863-78
Here Cochrane ends, Hansen takes over. Topics for
the rest of this, and following quarter will be, roughly,
c. Multiple (especially durable) goods
d. Epstein-Zin ; recursive utility
5. Term structure
of interest rates
6. Dynamic present value models of random cashflows
(including long-run risks)
7. Idiosyncratic
risk, heterogeneous agents, incomplete markets, frictions.
8. General Equilibrium, with a production side.
9. Learning
Documents – problem sets, lecture
notes, etc.
Function olsgmm called by
matlab program
Data files needed for matlab program: vw_stocks.txt tb90_ret.txt cay_q_05Q4.txt
Week 1 pictures and tables Updated to include week
2 material
Problem set 2 matlab program
Files needed to run program: olsgmm.m famabliss.txt
Week 3 overheads
Cochrane-Piazzesi overheads
Fama-French overheads
Problem set 3 questions
Problem set 3 answers
Problem
set 4 questions
Problem set 4 answers
Problem set 4 matlab program
Additional links
A matlab program to make
A list of interesting references – places to start if
you want to pursue the topics, and references to papers I discuss in class and
or from which I presented tables figures and other snippets
Predictability
A list of just about every claimed ER predictor in
the literature, with citations. Also issues the challenge that few variables
work “out of sample”, but see my rejoinder in the dog that did not bark:
1. Goyal, Amit, and Ivo Welch, 2006, "A
Comprehensive Look at The Empirical Performance of Equity Premium Prediction
" forthcoming in Review of Financial Studies.
The cay paper (but see also the tay vs. cay debate,
from Lettau's website – the issue is estimating cay cointegrating vector in
sample)
2. Lettau, Martin and Sydney Ludvigson,
"Consumption, Aggregate Wealth, and Expected Stock Returns," Journal
of Finance, LVI (3), 815--849, June 2001
The payout yield paper
3. Boudoukh, Michaeli, Richardson and Roberts,
2006, "On the importance of measuring payout yield: implications for
empirical asset pricing," forthcoming Journal of Finance. Data are
available on Michael Roberts' webpage.
Shiller's original variance bounds. But read my
survey below!
4. Shiller, Robert J., 1981, "Do stock prices
move too much to be justified by subsequent changes in dividends? American
Economic Review 71 421-436.
A fun review of a good book that debunks the tulip
and other "bubbles"
5. Cochrane, John H. "Book Review. Peter M.
Garber, Famous First Bubbles: The Fundamentals of Early Manias." Journal
of Political Economy 109, (October 2001),1150-1154.
The VAR with
expected return and cashflow shocks, plus a consumption/income version. Hey,
let's put both variables together (not yet done, really, though cay tries)
6. Cochrane,
John H. "Permanent and Transitory Components of GNP and Stock Prices"
Quarterly Journal of Economics CIX (February 1994) 241-266
The price-dividend volatility test. Much more
detail, and done in Hansen-Jagannathan style. It also has a CS style
decomposition that includes the means, which may be more useful for looking
across assets.
7. Cochrane, John H. Explaining the Variance of
Price-Dividend Ratios" Review of Financial Studies 5:2, (June 1991)
243-280
Survey of
volatility tests and Shiller's book. The equivalence between volatility tests
and expected returns.
8. Cochrane, John H. "Volatility Tests and
Efficient Markets: A Review Essay" Journal of Monetary Economics 27 (May
1991) 463-485.
Why you should NOT in general measure long run
statistics from low order VARs:
9. Cochrane, John H. "How Big is the Random Walk in
GNP?" Journal of Political Economy 96 (October 1988) 893-920.