Saving based asset pricing models

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Although the Consumption Based Asset Pricing Model (1) (CCAPM) is appealing not least thanks to its simplicity, its empirical test results are poor. If linearized, the model gives support to two of the most studied problems in financial theory: the Risk Free Rate Puzzle (2) and the Equity Premium Puzzle (3), meaning that the return of the market corrected by the risk is disproportionally high compared to the risk free rate return. Because of the high correlation between variables, some of the estimations of the models were challenging and remedies for multicollinearity had to be used. However test results are overall promising, indicating that the inclusion of the concept of wealth/savings in asset pricing models may indeed help solve The Equity Premium Puzzle and The Risk Free Rate Puzzle. (1) Rubinstein (1976), 'The Valuation of Uncertain Income Streams and the Price of Option', Bell Journal of Economics, Vol. 7, 407-425. Lucas (1978), 'Asset Prices in an Exchange Economy', Econometrica, Vol. 46, 1429-1446. Breeden (1979), 'An intertemporal asset pricing model with stochastic consumption and investment opportunities', Journal of Financial Economics, vol. 7, No 3, 265-296. (2) Weil (1989), 'The equity premium puzzle and the risk-free rate puzzle', Journal of Monetary Economics, Vol. 24, pp. 401-421 (3) Mehra & Prescott (1985), 'The Equity Premium: A Puzzle', Journal of Monetary Economics, Vol.15, 145-161