Asset Pricing

David Backus, New York University and NBER; Nina Boyarchenko, Federal Reserve Bank of New York; and Mikhail Chernov, University of California, Los Angeles

Term Structures of Asset Prices and Returns

Backus, Boyarchenko, and Chernov explore the term structures of claims to a variety of cash flows: U.S. government bonds (claims to dollars), foreign government bonds (claims to foreign currency), inflation-adjusted bonds (claims to the price index), and equity (claims to future equity indexes or dividends). Average term structures reflect the dynamics of the dollar pricing kernel, of cash flow growth, and of their interaction. The researchers use simple models to illustrate how relations between the two components can deliver term structures with a wide range of levels and shapes.

---

Michael Weber, University of Chicago

The Term Structure of Equity Returns: Risk or Mispricing?

The term structure of equity returns is downward-sloping: stocks with high cashflow duration earn 1.10% per month lower returns than short-duration stocks in the cross section. Weber creates a measure of cash-flow duration at the firm level using balance-sheet data to show this novel fact. The difference in returns is three times larger after periods of high investor sentiment than it is following low-sentiment periods. Factor models can explain only 50% of the return differential between high- and low-duration stocks. The researcher uses institutional ownership as a proxy for short-sale constraints, and finds the negative cross-sectional relationship between cash-flow duration and returns is only contained within short-sale constrained stocks. This set of facts holds for small and large stocks, as well as for value and growth stocks.

---

Dong Lou and Christopher Polk, London School of Economics, and Spyros Skouras, Athens University of Economics and Business

A Tug of War: Overnight Versus Intraday Expected Returns

Lou, Polk, and Skouras show that momentum profits accrue entirely overnight while profits on all other trading strategies studied occur entirely intraday. Indeed, for four-factor anomalies, intraday returns are particular large as there is a partially-offsetting overnight premium of the opposite sign. The researchers link cross-sectional and time-series variation in their decomposition of momentum expected returns to variation in institutional momentum trading, generating variation in overnight-minus-intraday momentum returns of approximately 2 percent per month. An overnight/intraday decomposition of momentum returns in nine non-U.S. markets is consistent with the authors' U.S. findings. Finally, they document strong and persistent overnight momentum, intraday momentum, and cross-period reversal effects.

Zhiguo He and Bryan T. Kelly, University of Chicago and NBER, and Asaf Manela, Washington University in St. Louis

Intermediary Asset Pricing: New Evidence from Many Asset Classes

He, Kelly, and Manela find that shocks to the equity capital ratio of financial intermediaries — Primary Dealer counterparties of the New York Federal Reserve — possess significant explanatory power for cross-sectional variation in expected returns. This is true not only for commonly studied equity and government bond market portfolios, but also for other more sophisticated asset classes such as corporate and sovereign bonds, derivatives, commodities, and currencies. The researchers' intermediary capital risk factor is strongly pro-cyclical, implying counter-cyclical intermediary leverage. The price of risk for intermediary capital shocks is consistently positive and of similar magnitude when estimated separately for individual asset classes, suggesting that financial intermediaries are marginal investors in many markets and hence key to understanding asset prices.

---

Ian Dew-Becker, Northwestern University; Stefano Giglio, University of Chicago and NBER; Anh T. Le, University of North Carolina; and Marius Rodriguez, Federal Reserve Board

The Price of Variance Risk (NBER Working Paper No. 21182)

In this paper, Dew-Becker, Giglio, Le, and Rodriguez study how, in the period 1996-2014, it was costless on average to hedge news about future variance at horizons ranging from 1 quarter to 14 years. It is only purely transitory and unexpected realized variance that was priced. These results present a challenge to many structural models of the variance risk premium, such as the intertemporal CAPM, recent models with Epstein-Zin preferences and long-run risks, and models where institutional investors have value-at-risk constraints. The results are also difficult to reconcile with macro models in which volatility affects investment decisions.

---

Nicolae B. Gârleanu, University of California, Berkeley and NBER, and Lasse H. Pedersen, Copenhagen Business School

Efficiently Inefficient Markets for Assets and Asset Management (NBER Working Paper No. 21563)

Gârleanu and Pedersen consider a model where investors can invest directly or search for an asset manager, information about assets is costly, and managers charge an endogenous fee. The efficiency of asset prices is linked to the efficiency of the asset management market: if investors can find managers more easily, more money is allocated to active management, fees are lower, and asset prices are more efficient. Informed managers outperform after fees, uninformed managers underperform after fees, and the net performance of the average manager depends on the number of "noise allocators." Finally, the researchers show why large investors should be active and discuss broader implications and welfare considerations.