FIN-03-003 |
NYU Stern School of Business |
January 2003
Antonios Sangvinatsos and Jessica Wachter
ABSTRACT
We consider the consumption and portfolio choice problem of a long-run
investor when the term structure is affine and when the investor has access to
nominal bonds and a stock portfolio. In the presence of unhedgeable inflation
risk, there exist multiple pricing kernels that produce the same bond prices,
but a unique pricing kernel equal to the marginal utility of the investor. We
apply our method to a three-factor Gaussian model with a time-varying price
of risk that captures the failure of the expectations hypothesis seen in the
data. We extend this model to account for time-varying expected inflation, and
estimate the model with both inflation and term structure data. The estimates
imply that the bond portfolio for the long-run investor looks very different from
the portfolio of a mean-variance optimizer. In particular, the desire to hedge
changes in term premia generates large hedging demands for long-term bonds.
Antonios Sangvinatsos
Institution: Leonard N. Stern School of Business, New York University
Email: asangvin@stern.nyu.edu
Home Page: http://www.stern.nyu.edu/~asangvin
Jessica Wachter
Institution: Leonard N. Stern School of Business, New York University
Telephone: (212) 998-0779
Fax: (212) 995-4233
Email: jwachter@stern.nyu.edu
Home Page: http://www.stern.nyu.edu/~jwachter
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