Intertemporal Capital Asset Pricing and the Fama-French Three-Factor Model∗
نویسندگان
چکیده
Characterizing the instantaneous investment opportunity set by the real interest rate and the maximum Sharpe ratio, a simple model of time varying investment opportunities is posited in which these two variables follow correlated Ornstein-Uhlenbeck processes, and the implications for stock and bond valuation are developed. The model suggests that the prices of certain portfolios that are related to the Fama-French HML and SMB hedge portfolio returns will carry information about investment opportunities. This provides a justification for the risk premia that have been found to be associated with these hedge portfolio returns. Evidence that the FF portfolios are in fact associated with variation in the investment opportunity set is found from an analysis of stock returns. Further evidence of time variation in the real investment opportunity set is found by analyzing bond yields, and the time variation in investment opportunities that is identified from bond yields is shown to be associated both with the time-variation in investment opportunities that is identified from stock returns and with the returns on the Fama-French hedge portfolios. Finally, it is shown that the estimated parameters imply substantial variation in stock prices that is not associated with cash flow expectations.
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