I summarize results from a forthcoming book with the same title. The US equity risk premium (ERP) is discussed in the context of broad-based market indices. The forward-looking ERP is estimated from options markets, which provide a market-based risk-neutral pdf for prices in the future. These pdf’s are transformed to real-world distributions via a well-known exponential tilt transformation. The tilt parameter is interpreted as the Coefficient of Relative Risk Aversion (CRRA) of a representative agent. Historically, I show CRRA in the range (2,4) Is a robust result and narrow this to my preferred range 3 ± 0.8 via a post-WW2 bootstrap. Two methods are given for the risk-neutral distribution estimation and other topics may be briefly touched upon.
About the Presenter: Alan Lewis
Alan has been involved in financial research since 1979. At that time, he joined the former Analytic Investment Management, a money management firm specializing in derivative securities. While there, he served as the Director of Research, Chief Investment Officer, and President of the mutual fund family. He has published two books on Option Valuation under Stochastic Volatility and articles in many of the leading financial journals. He received a Ph.D. in physics from the University of California at Berkeley and a B.S. from Caltech. He also formerly served as board Chairman for Envision Financial Systems, Inc. He currently resides in Newport Beach, California.
About this series
The Financial Engineering Seminar Series is a recurring event featuring thought leaders from industry and academia, who bring their experiences to a variety of important topics in this discipline.