ESTIMATING PREFERENCE PARAMETERS FROM STOCK RETURNS USING SIMULATED METHOD OF MOMENTS

Abstract

This study proposes a new way of solving standard dynamic problem based on Simulated Method of Moments (SMM) approach. It uses a newly introduced model of stock returns involving latent state variables and the regime-switching fundamentals and estimates three key preference parameters namely the Coefficient of Relative Risk Aversion, the Elasticity of Intertemporal Substitution and the subjective discount factor by suitably applying SMM and without directly using noisy consumption data. The estimates we found here seem to be relatively better than prevalent studies and very close to the true values of the para meters