Asset Pricing

Course goals

Learning objectives

• Understand and critically evaluate the price of any financial asset.
• Develop a lasting conceptual framework to analyze investment decisions.

Content

Asset pricing theory is the study of how to value uncertain future payoffs. In this course, we will understand how to define risk, and how to incorporate it into valuations. Overall, we will build a comprehensive framework that relates investment decisions to the broader macroeconomic environment. We will learn why asset prices move, and we will see that stocks, bonds, and options are just special cases of the same theory.
Our journey has two parts. In the first half of the course, we will study standard asset pricing theory.  We will set the stage by studying why financial markets exist. To this end, we will look into the link between asset prices and consumption. We will first derive a number of key results under certainty, and then we will introduce uncertainty. From then on, we will study investment through the lens of a number of models, including the CAPM, the APT, the CCAPM, and the ICAPM.

In the second half of the course, we will analyze a number of special cases. After studying what is right about standard finance theory, we will learn what is wrong. We will introduce novel concepts such as unsophisticated investors, investor sentiment, investor disagreement, and dichotomous attitude towards risk. We will also learn how to define mispricing, understand why it arises, and analyze how it affects firms’ investment decisions. Finally, we will conclude with an introduction to option pricing models and option-based investment strategies.

While knowing theory is important, it is equally important to know how to test it. To this purpose, we will also touch upon the main conceptual and methodological issues in empirical asset pricing. We will look at factor models, evaluating their strengths and weaknesses. We will also study Fama-MacBeth regressions, which has become a new standard in the asset pricing literature. These methods are of key importance also from a practitioner’s perspective.

To understand where our asset pricing knowledge comes from, we will study two sets of key academic papers in the field. First, we will look at the papers that have shaped our understanding of standard asset pricing. Second, we will cover the papers that have challenged said understanding. These papers will be assigned to students for two sessions of group presentations, and will be the object of class discussion.

Format
Lectures, seminars, and presentations.

Prerequisites In case online access is required for this course and you are not in the position to buy the access code, you are advised to contact the course coordinator for an alternative solution. Please note that access codes are not re-usable meaning that codes from second hand books do not work, as well as access codes from books with a different ISBN . Separate or spare codes are usually not available.