Asset pricing and portfolio choice theory

745 Pages·2017·4.255 MB·English

by  Kerry E. Back

Asset Pricing and Portfolio
Choice Theory
FINANCIALMANAGEMENTASSOCIATION
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Asset Pricing and Portfolio
Choice Theory
SECOND EDITION
Kerry E. Back
1
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LibraryofCongressCataloging-in-PublicationData
Names:Back,K.(Kerry),author.
Title:Assetpricingandportfoliochoicetheory/KerryE.Back.
Description:2ndedition.|Oxford;NewYork:OxfordUniversityPress,[2017]|
Series:FinancialManagementAssociationsurveyandsynthesis
series|Includesbibliographicalreferencesandindex.
Identifiers:LCCN2016007558(print)|LCCN2016014435(ebook)|
ISBN9780190241148(alk.paper)|ISBN9780190241155(Updf)|ISBN9780190241162(Epub)
Subjects:LCSH:Capitalassetspricingmodel.|Portfoliomanagement.
Classification:LCCHG4636.B332016(print)|LCCHG4636(ebook)|
DDC332.63/2042—dc23
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CONTENTS
PrefacetotheFirstEdition xv
PrefacetotheSecondEdition xvi
AssetPricingandPortfolioPuzzles xvii
PARTONE Single-PeriodModels
1.UtilityandRiskAversion 3
1.1.UtilityFunctionsandRiskAversion 4
1.2.CertaintyEquivalentsandSecond-OrderRiskAversion 8
1.3.LinearRiskTolerance 11
1.4.UtilityandWealthMoments 16
1.5.RiskAversionforIncrementstoRandomWealth 17
1.6.NotesandReferences 19
2.PortfolioChoice 27
2.1.First-OrderCondition 29
2.2.SingleRiskyAsset 32
2.3.MultipleRiskyAssets 35
2.4.CARA-NormalModel 38
2.5.Mean-VariancePreferences 41
2.6.LinearRiskToleranceandWealthExpansionPaths 43
2.7.Beginning-of-PeriodConsumption 47
2.8.NotesandReferences 48
3.StochasticDiscountFactors 52
3.1.BasicRelationshipsRegardingSDFs 53
3.2.Arbitrage,theLawofOnePrice,andExistenceofSDFs 56
3.3.CompleteMarketsandUniquenessoftheSDF 59
3.4.Risk-NeutralProbabilities 61
3.5.OrthogonalProjectionsofSDFsontotheAssetSpan 62
3.6.Hansen-JagannathanBounds 67
3.7.HedgingandOptimalPortfolioswithQuadraticUtility 70
viii CONTENTS
3.8.HilbertSpacesandGram-SchmidtOrthogonalization 72
3.9.NotesandReferences 75
4.EquilibriumandEfficiency 79
4.1.ParetoOptima 80
4.2.CompetitiveEquilibria 83
4.3.CompleteMarkets 84
4.4.AggregationandEfficiencywithLinearRiskTolerance 86
4.5.Beginning-of-PeriodConsumption 93
4.6.NotesandReferences 95
5.Mean-VarianceAnalysis 99
5.1.GraphicalAnalysis 100
5.2.Mean-VarianceFrontierofRiskyAssets 101
5.3.Mean-VarianceFrontierwithaRisk-FreeAsset 106
5.4.OrthogonalProjectionsandFrontierReturns 111
5.5.FrontierReturnsandStochasticDiscountFactors 117
5.6.SeparatingDistributions 118
5.7.NotesandReferences 122
6.FactorModels 127
6.1.CapitalAssetPricingModel 128
6.2.GeneralFactorModels 135
6.3.Jensen’sAlphaandPerformanceEvaluation 142
6.4.StatisticalFactors 145
6.5.ArbitragePricingTheory 147
6.6.EmpiricalPerformanceofPopularModels 150
6.7.NotesandReferences 155
7.RepresentativeInvestors 162
7.1.ParetoOptimalityImpliesaRepresentativeInvestor 163
7.2.LinearRiskTolerance 165
7.3.Consumption-BasedAssetPricing 167
7.4.Coskewness-CokurtosisPricingModel 171
7.5.RubinsteinOptionPricingModel 172
7.6.NotesandReferences 175
PARTTWO DynamicModels
8.DynamicSecuritiesMarkets 183
8.1.PortfolioChoiceModel 184
CONTENTS ix
8.2.StochasticDiscountFactorProcesses 187
8.3.ArbitrageandtheLawofOnePrice 192
8.4.CompleteMarkets 192
8.5.Bubbles,TransversalityConditions,andPonziSchemes 195
8.6.InflationandForeignExchange 198
8.7.NotesandReferences 198
9.DynamicPortfolioChoice 202
9.1.EulerEquation 202
9.2.StaticApproachinCompleteMarkets 205
9.3.OrthogonalProjectionsforQuadraticUtility 206
9.4.IntroductiontoDynamicProgramming 208
9.5.DynamicProgrammingforPortfolioChoice 212
9.6.CRRAUtilitywithIIDReturns 219
9.7.NotesandReferences 227
10.DynamicAssetPricing 233
10.1.CAPM,CCAPM,andICAPM 234
10.2.TestingConditionalModels 246
10.3.CompetitiveEquilibria 247
10.4.GordonModelandRepresentativeInvestors 249
10.5.Campbell-ShillerLinearization 251
10.6.Risk-NeutralProbabilities 254
10.7.NotesandReferences 256
11. ExplainingPuzzles 260
11.1.ExternalHabits 260
11.2.RareDisasters 266
11.3.Epstein-Zin-WeilUtility 268
11.4.Long-RunRisks 276
11.5.UninsurableLaborIncomeRisk 279
11.6.NotesandReferences 283
12.BrownianMotionandStochasticCalculus 289
12.1.BrownianMotion 290
12.2.ItôIntegralandItôProcesses 292
12.3.MartingaleRepresentation 298
12.4.Itô’sFormula 299
12.5.GeometricBrownianMotion 303
12.6.CovariationofItôProcessesandGeneralItô’sFormula 305