The consumption-based capital asset-pricing model (CCAPM), habit-based consumption and the equity premium in an Australian context

David E. Allen, Lurion Demello

Research output: Chapter in Book/Report/Conference proceedingChapterResearchpeer-review

Abstract

We adopt the habit utility specification of Campbell and Cochrane (1995) to estimate the Australian equity premium: the return on a market portfolio of equities in excess of the risk-free rate.We use Australian quarterly data for private household consumption, population, equity returns, risk-free asset returns, dividend yields and price dividend ratios taken from Datastream InternationalTM over a 28-year period from January 1973 to June 2002 providing 118 observations. A habit utility specification is able to reproduce an equity premium that is comparable to the actual equity premium. A variance ratio test rejected the hypothesis that the variance of estimates of the habit-based Arrow-Debreu equity asset prices were the same as those based on estimates using CRRA to assess volatility or on the Hansen-Jagannathan lower bound. The habit model is able to account for more of the variability in equity prices than the CRRA model. The smooth consumption puzzle is not as severe in the Australian context when the habit model is applied to this data set. However, the habit model still does not completely resolve the equity premium puzzle in an Australian context-stock volatility is still too high compared to consumption volatility and the coefficient of risk aversion is unreasonable.

LanguageEnglish
Title of host publicationFinancial Econometrics Modeling: Market Microstructure, Factor Models and Financial Risk Measures
PublisherPalgrave Macmillan
Pages135-153
Number of pages19
ISBN (Electronic)9780230298101
ISBN (Print)9780230283626
DOIs
Publication statusPublished - 1 Jan 2010

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Equity premium
Capital asset pricing model
Habit
Equity
Dividends
Dividend yield
Equity returns
Coefficients
Stock volatility
Household consumption
Equity premium puzzle
Risk aversion
Market portfolio
Asset prices
Data streams
Equity prices
Risk-free rate
Asset returns
Variance ratio test
Lower bounds

Cite this

Allen, D. E., & Demello, L. (2010). The consumption-based capital asset-pricing model (CCAPM), habit-based consumption and the equity premium in an Australian context. In Financial Econometrics Modeling: Market Microstructure, Factor Models and Financial Risk Measures (pp. 135-153). Palgrave Macmillan. https://doi.org/10.1057/9780230298101_5
Allen, David E. ; Demello, Lurion. / The consumption-based capital asset-pricing model (CCAPM), habit-based consumption and the equity premium in an Australian context. Financial Econometrics Modeling: Market Microstructure, Factor Models and Financial Risk Measures. Palgrave Macmillan, 2010. pp. 135-153
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Allen, DE & Demello, L 2010, The consumption-based capital asset-pricing model (CCAPM), habit-based consumption and the equity premium in an Australian context. in Financial Econometrics Modeling: Market Microstructure, Factor Models and Financial Risk Measures. Palgrave Macmillan, pp. 135-153. https://doi.org/10.1057/9780230298101_5

The consumption-based capital asset-pricing model (CCAPM), habit-based consumption and the equity premium in an Australian context. / Allen, David E.; Demello, Lurion.

Financial Econometrics Modeling: Market Microstructure, Factor Models and Financial Risk Measures. Palgrave Macmillan, 2010. p. 135-153.

Research output: Chapter in Book/Report/Conference proceedingChapterResearchpeer-review

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Allen DE, Demello L. The consumption-based capital asset-pricing model (CCAPM), habit-based consumption and the equity premium in an Australian context. In Financial Econometrics Modeling: Market Microstructure, Factor Models and Financial Risk Measures. Palgrave Macmillan. 2010. p. 135-153 https://doi.org/10.1057/9780230298101_5