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Sources of entropy in dynamic representative agent models

Backus, David and Chernov, Mikhail and Zin, Stanley (2014) Sources of entropy in dynamic representative agent models. Journal of Finance, 69 (1). pp. 51-99. ISSN 0022-1082

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Identification Number: 10.1111/jofi.12090

Abstract

We propose two data-based performance measures for asset pricing models and apply them to models with recursive utility and habits. Excess returns on risky securities are reflected in the pricing kernel's dispersion and riskless bond yields are reflected in its dynamics. We measure dispersion with entropy and dynamics with horizon dependence, the difference between entropy over several periods and one. We compare their magnitudes to estimates derived from asset returns. This exercise reveals tension between a model's ability to generate one-period entropy, which should be large, and horizon dependence, which should be small.

Item Type: Article
Official URL: http://onlinelibrary.wiley.com/journal/10.1111/%28...
Additional Information: © 2013 the American Finance Association
Subjects: H Social Sciences > HG Finance
Sets: Departments > Finance
Date Deposited: 14 Aug 2013 14:01
Last Modified: 07 Apr 2014 10:08
URI: http://eprints.lse.ac.uk/id/eprint/37462

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