This page is devoted to the book * Asset Pricing *,
and the corresponding online class.

You can find lecture notes, class notes, readings, and problem sets at the "teaching" link to the left, especially 35150 Advanced Investments and 35904 Asset Pricing. Note, the answers to many problem sets are intentionally not posted. I may fix that some day but it's a big project. Notes related to macroeconomics and time series are on the "research" page.

**Book**

*Asset pricing* Revised Edition. This link gives you a sample chapter. Click here to go to the Princeton University press website where you can order the book. (It is sometimes cheaper at Amazon.com or Barnes and Noble.com. In Chicago, it’s available at the seminary COOP bookstore.)

**Additional Materials**

Here are some additional materials useful for classes or self study. Many of these are essays or notes that I wrote since last revising the book.

- If you are teaching a class that uses
*Asset Pricing*, you can get solutions to the problems by emailing me. Tell me who you are and what class you're teaching. - Here's the Typo list for the first edition. These typos are all removed in the revised edition.
- Portfolio theory is a draft of a Chapter on portfolio theory for the next edition.
- The Introduction to "Financial Markets and the Real Economy" is an updated survey of macro-asset pricing work.
- Discount rates (Journal of Finance) is my latest attempt to synthesize asset pricing and suggest where we should go.
- Macro-Finance.
*Jan 23 2017.*Forthcoming*Review of Finance.*I survey many current frameworks including habits, long run risks, idiosyncratic risks, heterogenous preferences, rare disasters, probability mistakes, and debt or institutional finance. - Continuous time. Note covering dz, dt, stochastic integrals,
and how to do all of Chapter 1 in continuous time. (The next revision will use a continuous time framework much more extensively.) This is better than the current continuous time chapter of
*Asset Pricing* - Continuous-time
linear models
Foundations and Trends in Finance 6 (2011), 165–219 DOI: 10.1561/0500000037 Manuscript How to do ARMA models, opreator tricks, and Hansen-Sargent prediction formulas in continuous time. - A Brief Parable of Overdifferencing January 2012. This is a short note, showing how money demand estimation works very well in levels or long (4 year) differences, but not when you first-difference the data. It shows why we often want to run OLS with corrected standard errors rather than GLS or ML, and it cautions against the massive differencing, fixed effects and controls used in micro data. It's from a PhD class, but I thought the reminder worth a little standalone note.
- Investments notes.
*Jan 2005.*Notes for MBA investments classes. Summary of background (statistics, regression, time series, matrices, maximization) and a concise treatment of some of the standard topics (bond notation and expectations hypothesis, bond pricing) - Time series for macroeconomics and Finance
*Jan 2005*Lecture notes for PhD time series course. This revision finally includes the figures! - Writing tips for PhD students
*May 2005*. Some tips on how to write academic articles. Do as I say, not as I do. Chinese Translation, 2013. (Original source of chinese translation. Thanks to Shihe Fu)

# Online Class

I created an online class "Asset Pricing" for Coursera. Alas, Coursera moved to a new platform, and could not move my class to the new platform, nor were they willing to keep the old platform alive. RIP. However, here are the videos and notes from the online class. I'm working on the problem sets, but that will take some time to make available. We (the Universtity of Chicago team and me) are working on finding another way to host the class so you can get graded and earn a certificate, but that will take even longer. The class is also hosted on Canvas, the University of Chicago course-management system, which you may be able to access. This section is new (September 2016), so please let me know about inevitable bugs and broken links.

## Lecture Videos

The lecture videos are availble on two youtube channels,

- Asset Pricing, Part 1 . Modules 1-7.
- Asset Pricing, Part 2. Modules 8-14.

## Course Outline and Materials

You can see the detailed topic list in the youtube videos. If you can't get some of the papers, because you don't have JSTOR or scence direct, a little googling will usually turn it up. I can't list unofficial links here.

### Module 1. Stochastic Calculus Introduction and Review.

This module is a review covering some basic concepts in stochastic calculus and time-series processes. Skim if you know this material well.

- Required reading
- Continuous-Time Notes 2.2-2.4 (p. 13-24)

- Optional or background reading
*Asset Pricing:*Preface- Investments notes. A review of my introductory class for MBAs. Useful cultural background and reference.
- Time series notes. This is a book-length introduction to time series in discrete time. You don't need all of it here but it is one place to find the basics.

- Youtube videos 1.x
- Whiteboards (the whiteboards behind me in lecture)

### Module 2. Facts

This week is an overview of asset pricing facts and the basic theory that we will expand on throughout the course.

- Required Reading
*Asset Pricing*Ch. 20: Introduction (p. 389-393); Section 20.1 (p. 391-395 only); Section 20.2 (p. 435-448 only).- Discount rates (p. 1047-1048; 1051-1053; 1058-1063). (Also available here
- Fama, Eugene F. and Kenneth R. French, 1996, “Multifactor explanations of asset pricing anomalies,"
*Journal of Finance*51, 55-84. Read p. 55-60. *Asset Pricing*Ch. 1. (The link takes you to Princeton University Press, where Ch. 1 is available free.)

- Optional Reading
- Discount rates video from the AFA annual meetings. Also, slides.
- Financial Markets and the Real Economy Sections 1 and 2 (p. 237-257). Note: If you are unable to access this article here, check Google for the full book. The article in question is chapter 7.

- Youtube videos 2.x
- Whiteboards

### Module 3. Classic Issues

This week we'll cover some of the classic issues in finance.

- Required Reading
- Short Review of Efficiency (introduction for Gene Fama)
*Asset Pricing*Ch. 2

- Reference
- Asset Prices in An Exchange Economy. This is the famous paper that launched the consumption-based model and endowment-economy framework.

- Youtube videos 3.x
- Whiteboards

### Module 4. Discount Factor

This week we'll look at the discount factor in more detail.

- Required Reading
*Asset Pricing:*chapters 3-4.

- Optional Reading
- “The Role of Conditioning Information in Deducing Testable Restrictions Implied by Dynamic Asset Pricing Models.” This is the paper that sets out all of the state space stuff, and the conditional vs. unconditional mean variance frontier. It has all the assumptions and the proofs. Very dense, and I mean that as a compliment.

- Youtube videos 4.x
- Whiteboards

### Module 5. Mean-variance frontier and beta representations.

This week we'll cover the mean-variance frontier, beta representations, and the relationship between the discount factor, mean-variance and beta representations, and conditioning information.

- Required Reading
- Asset Pricing chapters 5, 6.1-6.4, 7, and 8.1-8.2.

- Optional Reading
- Youtube videos 5.x
- Whiteboards

### Module 6. Factor Pricing Models

This week we'll cover the some of the common factor models used in asset pricing: the Capital Asset Pricing Model (CAPM), the Intertemporal Capital Asset Pricing Model (ICAPM), the Arbitrage Pricing Theory (APT), and how they relate to each other.

- Required Reading
*Asset Pricing ch.9*.

- Optional (Highly Recommended!) Reading
- Fama and French, 1996, "Multifactor Explanations of Asset Pricing Anomalies", p. 55-84. Read the rest of the paper. Skip section V, 68-75.

- Youtube videos 6.x
- Whiteboards

### Module 7. Econometrics and GMM.

This week we'll discuss the Generalized Method of Moments. How do you estimate alphas, betas, and lambdas? How do you evaluate if models are any good? GMM is a very flexible econometric framework for lots of problems, and we'll also explore that a bit

- Required Reading
*Asset Pricing*Chapter 11*Asset Pricing*Chapter 12

- Optional Reading
- Hansen, Lars Peter, 1982, Large Sample Properties of Generalized Method of Moments Estimators Econometrica 50, 1029-1054.
- Hansen, Lars Peter and Kenneth J. Singleton, 1982, Generalized Instrumental Variables Estimation of Nonlinear Rational Expectations Models Econometrica 50, 1269-1286.
- Cochrane, John H. GMM Notes
- Cochrane, John H., A Brief Parable of Overdifferencing

- Guide to the optional readings:
- Hansen 1982 is The Article that defines GMM. Read it (at least) three times. The first time through, just understand the notation and the statement of the theorems. Find the GMM estimate defined, standard errors, test statistics. Get ready to use GMM. The second time through, read the "if" part of the proofs. Understand the stationarity, ergodicity, etc. assumptions. They matter! Finally, try to read the proofs.
- Hansen and Singleton (1982) is the crucial application to the consumption based model.
- GMM Notes is a written version of my notes for the lectures. It's not exactly one to one, I condensed the lectures. The lectures and pdfs of the whiteboards should be enough. This is one place to turn if those are confusing, and hence just an optional resource.
- The Brief Parable of Overdifferencing is a good example for the "Choosing a W matrix" lecture, showing you how statistical efficiency can lead to bad estimators.

- Youtube videos 7.x
- Whiteboards

### Module 8. Fama-French and Performance Evaluation

In this module, we'll discuss two of the most classic uses of factor pricing models. We start with the Fama-French three-factor model and the most common fourth factor added to it (momentum). Then we'll study the question whether mutual fund managers have "skill" revealed in "alpha." That question has us benchmark the managers against factor pricing models.

- Fama / French Readings
- Fama and French, 1996, "Multifactor Explanations of Asset Pricing Anomalies", p. 55-84. Skip section V, 68-75.
- Cochrane, John H., "Presidential Address: Discount Rates"
*The Journal of Finance 66, 1047-1108. Read*Section II "Cross-Section" p. 1058-1063. *Asset Pricing*Chapter 20.2. My "textbook" treatment of the Fama-French model and what it means.

- Performance Evaluation Readings
- Carhart, Mark M., 1997, “On Persistence in Mutual Fund Performance,” Journal of Finance 52, 57-82.
- Fama, Eugene F. and Kenneth R. French, 2010, "Luck versus Skill in the Cross-Section of Mutual Fund Returns" Journal of Finance 65, 1915-1947
- Berk, Jonathan, 2005" Five Myths of Active Portfolio Management," Journal of Portfolio Management, Vol. 31, pp. 27-31

- Notes
- Notes for performance evaluation lectures. (My lecture notes)

- Youtube videos (now part 2) 8.x
- Whiteboards

### Module 9. The Econometrics of Classic Linear Models

This week we'll study the econometrics of linear factor pricing models such as Fama and French. This is really all a spacial case of GMM. I prefer to have you see the application before the theory, so, this is the econometric theory behind the Fama and French regressions that you've already run, along with a lot of conceptual review about what we're running and why.

- Readings
*Asset Pricing*Ch. 12. "Regression-Based Tests of Linear Factor Models;"*Asset Pricing*Ch. 15 "Time-Series, Cross-Section, and GMM/SDF Tests of Linear Factor Models;"*Asset Pricing*Ch. 16 "Which Method?"

- Notes
- Classic Regressions Summary A very short summary of time series, cross section, FMB regressions and tests.

- Youtube videos 9.x
- Whiteboards

### Module 10. Time-Series Predictability, Volatility, and Bubbles

In this module, we'll study time series predictability in detail. We looked at regressions of returns on dividend yields in Module 2, but now we'll look a lot deeper, including present values, identifying cashflow and discount rate shocks, and tying predictability to volatility and so-called bubbles.

- Readings
- Cochrane, John, 2011, "Discount Rates," Journal of Finance 66, 1047-1108 (August 2011). p. 1047-1058.
- Extensive notes. (63 pages). Written out treatment of predictability, suitable for reading on its own not just as a backdrop to the lecture.
*Asset Pricing*Ch. 20.

- Notes
- Lecture notes. A short version (19 pages) with the same material and the main bullet points. My lecture notes.

- Youtube videos 10.x
- Slides

### Module 11. Equity Premium, Macroeconomics, and Asset Pricing

In this module, we'll study the connection between macroeconomics and asset pricing. This is, really, I think a highlight of financial economics. Just what are the fundamental, economic, risks that investors in asset markets seem so scared of, that they allow large risk premiums to survive? This is also an area that made huge progress, took a breath, and is back in full force. The experience of the 2008 financial crisis and recession says a lot about the kind of event people are afraid of! A more detailed list of topics:

- Equity Premium and other puzzles
- Power utility tests, Utility function preview
- Habits
- Recursive Utility/long-run risks
- Idiosyncratic risk, heterogeneous preferences
- Production and general equilibrium.
- Summary; other approaches

- Readings
- Macro-Finance. I wrote this after the lecture, really summing up everthing in this lecture. I survey many current frameworks including habits, long run risks, idiosyncratic risks, heterogenous preferences, rare disasters, probability mistakes, and debt or institutional finance.
*Asset Pricing*Ch1; Ch 21 "Equity Premium Puzzle and Consumption-Based Models"- Cochrane, John H., 2011, Discount rates Journal of Finance 66, 1047-1108 Sectons III Theories, and Section IV Recent Performance.
- Cochrane, John H., 2007,
Financial Markets and the Real Economy in Rajnish Mehra, Ed.
*Handbook of the Equity Premium*Elsevier 2007, Section 3. "Equity Premium," Section 4., "Consumption Models" and Section 5. "Production, Investment, and General Equilibrium". Don't miss the Appendix on Recursive Utility.

- References.
My lecture covered a lot of papers. Here are the original papers. They are not required reading for this class, as the lectures are self contained. But you do need to know just what the papers are you're learning about, and you should read these if you want to pursue the topic further.
- Main points covered in the lectures
- Campbell, John Y. and John H. Cochrane 1999, By Force of Habit: A Consumption-Based Explanation of Aggregate Stock Market Behavior
*Journal of Political Economy,*107, 205-251. Manuscript with extra appendices - Ravi Bansal, Dana Kiku and Amir Yaron, 2012 An Empirical Evaluation of the Long-Run Risks Model for Asset Prices
*Critical Finance Review*, 2012, 1: 183-221 - Beeler, Jason and John Y. Campbell, 2012, The Long-Run Risks Model and Aggregate Asset Prices: An Empirical Assessment", Critical Finance Review: Vol. 1: No. 1, pp 141-182.
- Constantinides, George M. and Darrell Duffie, 1996, "Asset pricing with heterogeneous consumers." Journal of Political Economy 104 (1996): 219-240.
- Garleanu, Nicolae, and Stavros Panageas, 2014, "Young, Old, Conservative and Bold. The implications of finite lives and heterogeneity for Asset Pricing" Manuscript, forthcoming June 2015
*Journal of Political Economy* - Cochrane, John H. 1991, Production-Based Asset Pricing and the Link Between Stock Returns and Economic Fluctuations
*The Journal of Finance*46, 209-237. This is the source of the graph and tables for the "Production" section.

- Campbell, John Y. and John H. Cochrane 1999, By Force of Habit: A Consumption-Based Explanation of Aggregate Stock Market Behavior
- References for minor points
- Chen, Hui, Winston Dou and Leonid Kogan 2013, "Measuring the `Dark Matter' in Asset Pricing Models," Manuscript, Available from Chen's website.

This is the source of the "Dark Matter" quip from the lecture on recursive utility. - Schmidt, Lawrence, 2015, "Climbing and Falling Off the Ladder: Asset Pricing Implications of Labor Market Event Risk", Manuscript.

A recent paper I mentioned in lecture that uses the Constantinides-Duffie mechanism, adding rare disasters to individual risks. (Many references will allow you to quickly move back and catch up with the current literature) - Cochrane, John H., 2003, "Stock as Money: Convenience Yield and the Tech-Stock Bubble" in William C. Hunter, George G. Kaufman and Michael Pomerleano, Eds., Asset Price Bubbles Cambridge: MIT Press 2003. Alas, no pdf of the published version is available.

This is the source of the graph linking the level of prices to volatility. - Jagannathan, Ravi, and Yong Wang, 2007, Lazy Investors, Discretionary Consumption, and the Cross-Section of Stock Returns The Journal of Finance, 62 (4) 1623-1661.

The consumption CAPM works quite well from December to December. This is the source of the graph shown in lecture and the problem set you solved a few weeks ago. - Cochrane, John H., Notes on utility functions (lecture notes, a reference.)

- Chen, Hui, Winston Dou and Leonid Kogan 2013, "Measuring the `Dark Matter' in Asset Pricing Models," Manuscript, Available from Chen's website.
- Note, I left out a lot! There is a whole resurgent interest in "rare disasters" that I have not covered. Plus, there is a lot of macro/asset pricing literature that is trying to put in various financial frictions at the core of both. Some of this is an attempt to understand the 2008 financial crisis, a worthy subject. The big question is whether such frictions are important for every day asset pricing.

- Main points covered in the lectures
- Youtube videos 11.x
- Slides

### Module 12. Option Pricing

In this module, we'll discuss option pricing, the Black-Scholes option-pricing formula, and empirical option pricing. Of course I relate option and arbitrage pricing to p=E(mx), rather than treat it as a separate idea.

- Required Reading
*Asset Pricing*Chapter 17.

- Youtube videos 12.x
- Whiteboards

### Module 13. Bonds

In this module, we'll discuss bonds and models of the term structure of interest rates.

- Required Reading
*Asset Pricing*chapter 19.*Asset Pricing*chapter 20, pages 422-453.

- Optional Reading
- Cochrane, John H. and Monika Piazzesi, Bond Risk Premia Ignore section V “Tests.”
- Cochrane, John H. and Monika Piazzesi, Decomposing the Yield Curve.
- Lustig, Hanno, Nikolai L. Roussanov, and Adrien Verdelhan, 2011, Common Risk Factors in Currency Markets, Review of Financial Studies 24: 3731-3777. Read only through p. 3750.
- Lecture notes, part 1 and part 2.

- Youtube videos 13.x
- Whiteboards

### Module 14. Portfolio Theory

In this module, we'll discuss portfolio theory in more detail.

- Required Reading
- Portfolio Theory This is a draft for a chapter of the next
*Asset Pricing*revision. - Discount rates p.1079-1086

- Portfolio Theory This is a draft for a chapter of the next
- Optional Reading
- "A Mean-Variance Benchmark for Intertemporal Portfolio Theory"
*Journal of Finance*, 69: 1-49. A stirring essay on portfolio theory, followed by a compact derivation of standard mean variance results. The point of the paper is to apply mean-variance theory directly to payoffs and avoid all the Merton dynamic problems. - Portfolio Advice for a Multifactor World An older chatteier essay on multifactor portfolio theory.

- "A Mean-Variance Benchmark for Intertemporal Portfolio Theory"
- Youtube videos 14.x
- Whiteboards