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How Do Investors' Expectations Drive Asset Prices?
Author(s) -
Lüders Erik,
Peisl Bernhard
Publication year - 2001
Publication title -
financial review
Language(s) - English
Resource type - Journals
SCImago Journal Rank - 0.621
H-Index - 47
eISSN - 1540-6288
pISSN - 0732-8516
DOI - 10.1111/j.1540-6288.2001.tb00030.x
Subject(s) - sharpe ratio , volatility (finance) , stochastic volatility , economics , econometrics , financial economics , asset (computer security) , stochastic discount factor , volatility smile , capital asset pricing model , implied volatility , volatility swap , portfolio , computer science , computer security
Based on an extension of the process of investors' expectations to stochastic volatility we derive asset price processes in a general continuous time pricing kernel framework. Our analysis suggests that stochastic volatility of asset price processes results from the fact that investors do not know the risk of an asset and therefore the volatility of the process of their expectations is stochastic, too. Furthermore, our model is consistent with empirical studies reporting negative correlation between asset prices and their volatility as well as significant variations in the Sharpe ratio.