Incomplete Markets and Security Prices: Do Asset-Pricing Puzzles Result from Aggregation Problems?

This paper investigates Euler equations involving security prices and household-level consumption data. It provides a useful complement to many existing studies of consumption-based asset pricing models that use a representative-agent framework, because the Euler equations under investigation hold even if markets are incomplete. It also provides a useful complement to simulation-based studies of market incompleteness. The empirical evidence indicates that the theory is rejected by the data along several dimensions. The results therefore indicate that some well-documented asset-pricing puzzles do not result from aggregation problems for the preferences under investigation. Copyright The American Finance Association 1999.