Discussion Papers, Department of Business and Management Science, Norwegian School of Economics (NHH)
Knut K. Aase
Recursive utility and jump-diffusions
Abstract: We derive the equilibrium interest rate and risk premiums
using recursive utility for jump-diffusions. Compared to to the continuous
version, including jumps allows for a separate risk aversion related to
jump size risk in addition to risk aversion related to the continuous part.
The jump part also introduces moments of higher orders that may matter in
many circumstances. We consider the version of recursive utility which
gives the most unambiguous separation of risk preference from time
substitution, and use the stochastic maximum principle to analyze the
model. This method uses forward/backward stochastic differential equations.
We demonstrate how the stochastic process for the market portfolio is
determined in terms the corresponding processes for future utility and
aggregate consumption. It is indicated that this model has the potential to
give reasonable explanations of empirical puzzles.
Keywords: Recursive utility; jump dynamics; the stochastic maximum principle; (follow links to similar papers)
JEL-Codes: D51; D53; D90; E21; G10; G12; (follow links to similar papers)
47 pages, January 30, 2015
Before downloading any of the electronic versions below
you should read our statement on
for viewing Postscript files and the
Acrobat Reader for viewing and printing pdf files.
Full text versions of the paper:
Questions (including download problems) about the papers in this series should be directed to Stein Fossen ()
Report other problems with accessing this service to Sune Karlsson ()
or Helena Lundin ().
Design by Joachim Ekebom