“Valuation Risk Revalued“
with Oliver de Groot and Alex Richter
Quantitative Economics, May 2022, Volume 13, Pages 723-759
FRB Dallas Working Paper 1808
Online Appendix

This paper shows the success of valuation risk—time-preference shocks in Epstein-Zin utility in resolving asset pricing puzzles rests sensitively on the way it is introduced. The specification used in the literature violates several desirable properties of recursive preferences because the weights in the Epstein-Zin time-aggregator do not sum to one. When we revise the specification in a simple asset pricing model the puzzles resurface. However, when estimating a sequence of increasingly rich models, we find valuation risk under the revised specification consistently improves the ability of the models to match asset price and cash-flow dynamics.