The poor performance of consumption-based asset pricing models relative to traditional portfolio-based asset pricing models is one of the great disappointments of the empirical asset pricing literature. We show that the external habit-formation model economy of Campbell and Cochrane (1999) can...

We show that the external habit-formation model economy of Campbell and Cochrane (1999) can explain why the Capital Asset Pricing Model (CAPM) and its extensions are betterapproximate asset pricing models than is the standard onsumption-based model. The model economy produces time-varying...