Incomplete Markets and Security Prices: Do Asset-Pricing Puzzles Result from Aggregation Problems?


  • Kris Jacobs

    1. Faculty of Management, McGill University
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    • Faculty of Management, McGill University. This paper is taken from Chapter 3 of my Ph.D. dissertation at the University of Pittsburgh. I would like to thank Craig Burnside, David De-Jong, Jerome Detemple, Vihang Errunza, René Garcia, John Ham, Hidehiko Ichimura, Shashi Murthy, Shankar Nagarajan, Theo Nijman, Jean-Francois Richard, Bill Sealey, Chris Telmer, an anonymous referee, René Stulz (the editor), seminar participants at CIRANO, McGill University, and Tilburg University, and conference participants at the 1996 EFA Meetings in Oslo and the 1996 ESEM meetings in Istanbul for helpful discussions and comments. I also thank John Ham and George J akubson for making their PSID data available to me and for extensive discussions on data interpretation. Any remaining errors are mine.


This paper investigates Euler equations involving security prices and household-level consumption data. It provides a useful complement to many existing studies of consumption-based asset pricing models that use a representative-agent framework, because the Euler equations under investigation hold even if markets are incomplete. It also provides a useful complement to simulation-based studies of market incompleteness. The empirical evidence indicates that the theory is rejected by the data along several dimensions. The results therefore indicate that some well-documented asset-pricing puzzles do not result from aggregation problems for the preferences under investigation.