Elucidating Equity Premium Using Corporate Dividends and Habit Formation

摘要

This study examines the implications of asset pricing. Corporate sensitivity to shocks is assessed using a continuous time representative agent framework in which dividends are a stochastic fraction of total consumption. Additionally, representative agent has a habit formation preference. This investigation provides closed-form solutions for equity value when dividends, habit ratio and consumption follow exponential affine jump diffusion processes. Calibrated results show that the corporate fraction and habit ratio to shocks significantly increases the equity premium and decrease the risk free rate. The model determines realistic value for the equity premium and the risk free rate.