Fall 2009 Thursday, September 10   Speaker: Satadru Hore Ph.D. Title: "Put Option Implied Risk-Premia in General Equilibrium under Recursive Preferences" Abstract: We show that the large time-series variation of put option prices on the S&P 500 Futures Index can be understood through traditional asset-pricing theory. This phenomenon is explained through a general equilibrium model based on recursive preferences, linear production technology and time-varying production growth rates. We directly take our general equilibrium framework to structural estimation using Bayesian methodologies and lter the underlying economic states and estimate the structural parameters from a panel of put option prices and consumption growth dynamics. The model implied risk-premium estimated from put options is large, counter-cyclical and captured through the long-run risk channel of recursive preferences, however, with short-run dynamics. We distinguish ourselves from other long-run risk models that rely on exogenous specications of stochastic volatility to generate time-variation in risk-premium. We rely on the non-linearity of the endogenously determined consumption-to-capital ratio that generates strong precautionary savings in poor economic states. This provides us an useful channel to study insurance motivation and explain why put option prices are highly counter-cyclical. The Bayesian estimation technique gives us the computational exibility to estimate structural parameters and filter a latent state variable even though the underlying state-space is highly non-linear.

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