American Finance Association Assessing Specification Errors in Stochastic Discount Factor Models

@inproceedings{Hansen2007AmericanFA,
  title={American Finance Association Assessing Specification Errors in Stochastic Discount Factor Models},
  author={Lars Peter Hansen and Ravi Jagannathan},
  year={2007}
}
In this article we develop alternative ways to compare asset pricing models when it is understood that their implied stochastic discount factors do not price all portfolios correctly. Unlike comparisons based on x2 statistics associated with null hypotheses that models are correct, our measures of model performance do not reward variability of discount factor proxies. One of our measures is designed to exploit fully the implications of arbitrage-free pricing of derivative claims. We demonstrate… CONTINUE READING
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