Paper: arXiv 2508.17996

Authors: Atilla Aras

Abstract

The article’s aim is to provide a solution to the equity premium puzzle with a derived model. The derived model which depends on Consumption Capital Asset Pricing Model gives a solution to the puzzle with the values of coefficient of relative risk aversion around 4.40 by assuming the subjective time discount factors as 0.97, 0.98 and 0.99. CRRA becomes around 4.11 when the subjective time discount factor is assumed 0.96. These values are found compatible with empirical literature. Moreover, the risk-free asset and equity investors are determined as insufficient risk-loving investors in 1977, which can be considered a type of risk-averse behavior. The risk attitude determination also confirms the validity of the model. Hence, it can be stated that calculated values and risk behavior determination demonstrate the correctness of the derived model because results are robust.

Complexity vs Empirical Score

  • Math Complexity: 5.5/10
  • Empirical Rigor: 4.0/10
  • Quadrant: Lab Rats — theoretically deep, empirically untested

Why this score: The paper attempts to resolve the classic equity premium puzzle by introducing a time-varying ‘Sufficiency Factor’ (SFOM) into a dynamic programming CCAPM framework. While it provides formal optimization setup with budget constraints, the empirical execution relies on a very old historical dataset (Mehra-Prescott 1889-1978) without rigorous modern out-of-sample backtesting or robustness validation. The notation and core conceptual derivations are somewhat confusing, limiting clarity and reproducibility.

Research Flowchart

  flowchart TD
    A[Goal: Solve Equity Premium Puzzle] --> B[Extend Consumption-CAPM Model]
    
    subgraph Inputs
        C[Time Discount Factors: β = 0.96 to 0.99]
        D[Historical Market & Consumption Data]
    Process
        E[Compute Coefficient of Relative Risk Aversion]
    end

    B --> C
    B --> D
    C --> E
    D --> E

    E --> F[Results: CRRA = 4.11 - 4.40]
    E --> G[Identify Investors as Insufficiently Risk-Loving]
    
    F --> H[Conclusion: Model Validated & Robust]
    G --> H