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Asset Pricing and Ambiguity: Empirical Evidence

Authors: Brenner, Menachem
Izhakian, Yehuda
Keywords: Ambiguity;Knightian uncertainty;Equity premium;Ambiguity measure
Issue Date: 30-Jan-2012
Abstract: Modern portfolio theory focuses on the relationship between risk and return, assuming away ambiguity, uncertainty over the probability space. This paper assumes that ambiguity affects asset prices and tests the relationship between risk, ambiguity and return based on a model developed by Izhakian (2011). Its contribution is twofold; it proposes an ambiguity measure that is derived theoretically and computed from stock market prices. Second, it uses ambiguity in conjunction with risk to test the basic relationship between risk, ambiguity and return. This paper finds that ambiguity has a consistently negative effect on returns and risk mostly has a positive effect.
Rights: Copyright Yehuda Izhakian and Menachem Brenner, 2011
Appears in Collections:Economics Working Papers

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