Asset Prices and Capital Share Risks: Theory and Evidence

Pricing of capital share risks provides a novel link between macroeconomics and finance. Our paper adopts the Epstein-Zin type utility framework and the Bansal and Yaron’s (2004) long-run risk model to derive an heterogeneous asset pricing model that extends Lettau et al.’s (2019) capital share study. Our model introduce heterogeneity within the stock market and highlights the role of elevated consumption volatility of high income stockholders in capital risks. We also uncover contracting evidences as the capital share growth has strong volatility effects in the short-run and capital share variability enters systematic risks in the long-run.