Risk Preferences and The Macro Announcement Premium

Hengjie Ai, Ravi Bansal

NBER Working Paper No. 22527
Issued in August 2016
NBER Program(s):Asset Pricing, Economic Fluctuations and Growth, Monetary Economics

The paper develops a theory for equity premium around macroeconomic announcements. Stock returns realized around pre-scheduled macroeconomic announcements, such as the employment report and the FOMC statements, account for 55% of the market equity premium during the 1961-2014 period, and virtually 100% of it during the later period of 1997-2014, where more announcement data are available. We provide a characterization theorem for the set of intertemporal preferences that generate a positive announcement premium. Our theory establishes that the announcement premium identifies a significant deviation from expected utility and constitutes an asset market based evidence for a large class of non-expected models that features aversion to ”Knightian uncertainty”, for example, Gilboa and Schmeidler [30]. We also present a dynamic model to account for the evolution of equity premium around macroeconomic announcements.

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Document Object Identifier (DOI): 10.3386/w22527

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