We provide new evidence on the success of long-run risks in asset pricing by focusing on the risks borne by stockholders. Exploiting microlevel household consumption data, we show that long-run stockholder consumption risk better captures cross-sectional variation in average asset returns than aggregate or  nonstockholder consumption risk, and implies more plausible risk aversion estimates. We find that risk aversion around 10 can match observed risk premia for the wealthiest stockholders across sets of test assets that include the 25 Fama and French portfolios, the market portfolio, bond portfolios, and the entire cross-section of stocks.

We evaluate the effect of the Federal Reserve’s purchase of long-term Treasuries and other long-term bonds ("QE1" in 2008-2009 and "QE2" in 2010-2011) on interest rates.  Using an event-study methodology that exploits both daily and intra-day data, we find a large and significant drop in nominal interest rates on long-term safe assets (Treasuries, Agency bonds, and highly-rated corporate bonds).  This occurs mainly because there is a unique clientele for long-term safe nominal assets, and the Fed purchases reduce the supply of such assets and hence increase the equilibrium safety-premium.  We find only small effects on nominal (default-adjusted) interest rates on less safe assets such as Baa corporate rates. The impact of quantitative easing on MBS rates is large when QE involves MBS purchases, but not when it involves Treasury purchases, indicating that a second main channel for QE is to affect the equilibrium price of mortgage-specific risk. Evidence from inflation swap rates and TIPS show that expected inflation increased due to both QE1 and QE2, implying that reductions in real rates were larger than reductions in nominal rates. Our analysis implies that (a) it is inappropriate to focus only on Treasury rates as a policy target because QE works through several channels that affect particular assets differently, and (b) effects on particular assets depend critically on which assets are purchased.

 

We document a large increase in the cyclicality of the incomes of high-income households, coinciding with the rise in their share of aggregate income. In the United States, since top income shares began to rise rapidly in the early 1980s, incomes of those in the top 1 percent of the income distribution have averaged 14 times average income and been 2.4 times more cyclical. Before the early 1980s, incomes of the top 1 percent were slightly less cyclical than average. The increase in cyclicality at the top is to a large extent due to increases in the share and the cyclicality of their earned income. The high cyclicality among top incomes is found for households without stock options; following the same households over time; for post-tax, post-transfer income; and for consumption. We study cyclicality throughout the income distribution and reconcile our findings with earlier work. Furthermore, greater top income share is associated with greater top income cyclicality across recent decades, across subgroups of top income households, and, in changes, across countries. This suggests a common cause. We show theoretically that increases in the production scale of the most talented can raise both top incomes and their cyclicality.

We evaluate the net benefits of the Sarbanes-Oxley Act (SOX) for shareholders by studying the lobbying behavior of investors and corporate insiders to affect the final implemented rules under the Act. Investors lobbied overwhelmingly in favor of strict implementation of SOX, while corporate insiders and business groups lobbied against strict implementation. We identify the firms most affected by the law as those whose insiders lobbied against strict implementation. Lobbying firms appear likely to be characterized by agency problems, rather than primarily motivated by concerns over high compliance costs. We compare the returns of lobbying firms to the returns of less affected firms. Cumulative returns during the five and a half months leading up to passage of SOX were approximately 7 percent higher for corporations whose insiders lobbied against one or more of the SOX disclosure-related provisions than for similar non-lobbying firms. Analysis of returns in the post-passage implementation period indicates that investors’ positive expectations with regards to the effects of these provisions of the law were warranted.

The 1964 Securities Acts Amendments extended the mandatory disclosure requirements that had applied to listed firms since 1934 to large firms traded Over-the-Counter (OTC). We find several pieces of evidence indicating that investors valued these disclosure requirements, two of which are particularly striking. First, a firm-level event study reveals that the OTC firms most affected by the 1964 Amendments had abnormal excess returns of about 3.5 percent in the weeks immediately surrounding the announcement that they had begun to comply with the new requirements. Second, we estimate that the most affected OTC firms had abnormal excess returns ranging between 11.5 and 22.1 percent in the period between when the legislation was initially proposed and when it went into force. These returns are adjusted for the standard four factors and are relative to NYSE/AMEX firms, matched on size and book-to-market equity, that were unaffected by the legislation. While we cannot determine how much of shareholders’ gains were a transfer from insiders of these same companies, our results suggest that mandatory disclosure causes managers to focus more narrowly on maximizing shareholder value.

We develop a principal-agent model in an entrepreneurial setting and test the model's predictions using unique data on entrepreneurial effort and wealth in privately held firms. Accounting for unobserved firm heterogeneity using instrumental-variable techniques, we find that entrepreneurial ownership shares increase with outside wealth and decrease with firm risk; effort increases with ownership; and effort increases firm performance, supporting the model's predictions. The magnitude of the effects in the cross-section of firms suggests that agency theory may help explain why entrepreneurs concentrate large fractions of their wealth in firm equity.

The paper discusses the current state of the behavioral finance literature. I argue that more direct evidence on investors' actions and expectations would make existing theories more convincing to outsiders and would help sort among behavioral theories for a given asset pricing phenomenon. Furthermore, evidence on the dependence of a given bias on investor wealth/sophistication would be useful for determining if the bias could be due to (fixed) information or transactions costs or is likely to require a behavioral explanation, and for determining which biases are likely to be most important for asset prices. I analyze a novel data set on investor expectations and actions obtained from UBS PaineWebber/Gallup. The data suggest that, even for high wealth investors, expected returns were high at the peak of the market, many investors thought the market was overvalued but would not correct quickly, and investors' beliefs depend strongly on their own investment experience. I then review evidence on the dependence of a series of "irrational" investor behaviors on investor wealth and conclude that many such behaviors diminish substantially with wealth. As an example of the cost needed to explain a particular type of "irrational" behavior, I consider the cost needed to rationalize why many households do not invest in the stock market.

The paper presents empirical evidence based on the U.S. Consumer Expenditure Survey that accounting for limited asset market participation is important for estimating the elasticity of intertemporal substitution. Differences in estimates of the EIS between asset holders and non-asset holders are large and statistically significant. The is the case whether estimating the EIS on the basis of the Euler equation for stock index returns or the Euler equation for Treasury bills, in eash case distringuishing between asset holders and non-asset holders as best possible. Estimates of the EIS are around 0.3-0.4 for stockholders and around 0.8-1 for bondholders and are larger households with larger asset holdings within these two groups.

We document the return to investing in U.S. nonpublicly traded equity. Entrepreneurial investment is extremely concentrated, yet despite its poor diversificaiton, we find that the returns to private equity are no higher than the returns to public equity. Given the large public equity premium, it is puzzling why households willingly invest substantial amounts in a single privately held firm with a seemingly far worse risk-return trade-off. We briefly discuss how large nonpecuniary benfits, a preference for skewness, or overestimates of the probability of survival could potentially explain investment in private equity despite these findings.

We propose and test a theory of learning and informational hold-up in the venture capital market. The model predicts that higher returns on the current fund increase the probability that a VC will raise a follow-on fund, the size of the follow-on fund, and the performance fee investors are charged in the follow-on fund. If learning is asymmetric, such that incumbent investors learn more about fund manager skill than potential new investors, the model also predicts persistence in returns, poor performance among rst-time funds, persistence in investors from fund to fund, and over-subscription in follow-on funds raised by successful fund managers. Our empirical evidence is consistent with these predictions. The model provides a unified framework for understanding a series of empirical facts about the venture capital industry.

We show that the US Debt/GDP ratio is negatively correlated with the spread between corporate bond yields and Treasury bond yields. The result holds even when controlling for the default risk on corporate bonds. We argue that the corporate bond spread reflects a convenience yield that investors attribute to Treasury debt. Changes in the supply of Treasury debt trace out the demand for convenience by investors. We show that the aggregate demand curve for the convenience provided by Treasury debt is downward sloping and provide estimates of the elasticity of demand. We analyze disaggregated data from the Flow of Funds Accounts of the Federal Reserve and show that individual groups of Treasury holders also have downward sloping demand curves. Groups for whom the liquidity of Treasuries is likely to be more important have steeper demand curves. The results have bearing for important questions in finance and macroeconomics. We discuss implications for the behavior of corporate bond spreads, interest rate swap spreads, the riskless interest rate, and the value of aggregate liquidity. We also discuss the implications of our results for the financing of the US deficit, Ricardian equivalence, and the effects of foreign central bank demand on Treasury yields.

The paper uses a novel Danish data set on labor incomes and educational choices to document that the time-series risk of individual labor incomes has a significant effect on individuals' educational choices. We classify the full set of post-high school educations into 50 groups based on admissions requirements, length, and topic studied. Income processes are estimated for each education group and the estimates are used in an empirical choice model. The estimated choice model suggests a preference for educations with higher mean incomes and lower risk, with a high variance of permanent income shocks seen as particularly undesirable. Using a structural model of life-time utility maximization we conclude that the parameter estimates of the empirical choice model imply a relative risk aversion coefficient around 5.