Working Papers

Investor Beliefs and Market Frictions (Job Market Paper)

I develop a theoretical framework to identify investors’ subjective beliefs that are jointly consistent with survey expectations and asset prices in markets where investors face trading frictions. To quantify the deviation of investors’ beliefs from Rational Expectations (RE), I provide a metric that is interpretable as an upper bound on the difference between the maximum Sharpe Ratios attainable under investors’ beliefs and RE. Empirically, I show that (i) an economically significant share of the deviation of investors’ beliefs from RE, assessed assuming frictionless markets, can be attributed to small amounts of trading costs, and (ii) the size of the deviation from RE, as well as the share of the deviation attributable to trading costs, varies across investor and asset characteristics. More specifically, the expectations of sophisticated investors are closer to RE and more in line with asset prices.

Presented at: Chicago Booth Finance Brownbag Seminar.

Global Factor Structure of Exchange Rates (Forthcoming, Journal of Financial Economics)

with Fabio Trojani and Andrea Vedolin

We propose a model-free methodology to estimate international stochastic discount factors (SDFs) that jointly price cross-sections of international stocks, bonds, and currencies in markets with frictions, and study the global factor structure of exchange rates. We theoretically establish a SDF decomposition into one global factor and a currency basket. We show that our global factor prices a large cross-section of international asset returns not just in- but also out-of-sample across different currency denominations. Moreover, the pricing ability of the global factor is largely independent of the market structure or the size and type of market friction.

Presented at: University of Geneva, SFI Research Days, York Empirical Asset Pricing Workshop, NBER IFM Meeting, SITE “Asset Pricing, Macro Finance and Computation”, Econometric Society World Congress, Vienna Symposium on Foreign Exchange Markets, the European Finance Association Meeting, the Paris December Finance Meeting 2020, 2nd Frontiers of Factor Investing Conference, Midwest Finance Association, SED Annual Meeting, and ETH Zurich.

Smart Stochastic Discount Factors

with Fabio Trojani and Alberto Quaini

We propose a novel no-arbitrage framework, which exploits convex asset pricing constraints to study investors' marginal utility of wealth or, more generally, Stochastic Discount Factors (SDFs). We establish a duality between minimum dispersion SDFs and penalized portfolio selection problems, building the foundation for characterizing the feasible tradeoffs between a SDF's pricing accuracy and its comovement with systematic risks. Empirically, a minimum variance CAPM-SDF produces a Pareto optimal tradeoff. This SDF only depends on two distinct risk factors: A traded market factor and a minimum variance excess return that bounds the mispricing of risks unspanned by market shocks.

Presented at: 2019 SoFiE annual Meeting in Shanghai, the European Econometric Society Meeting in Manchester, the Workshop on Big Data and Economic Forecasting in Ispra, the Conference on Quantitative Finance and Financial Econometrics in Marseille, the Financial Econometrics Conference in Toulouse, the Vienna Congress on Mathematical Finance, the Swiss Finance Institute Research days, the ESSEC Workshop on Monte Carlo Methods and Approximate Dynamic Programming, the Paris December Finance Meeting, the 2020 Virtual World Congress of the Econometric Society in Milano, the Remote Seminar Series on Computational Economics and Finance, the Virtual Derivatives Workshop and seminar participants at BI Norwegian Business School, Bocconi University, Mc Gill University, University of Zurich, University of Lugano, University of Geneva, University of Lund, JRC in Ispra and Luiss University.