Three Remarks On Asset Pricing

TL;DR

This paper advances asset pricing theory by deriving new equations and approximations for key market metrics, incorporating market-based averages like VWAP, and analyzing their statistical properties and correlations.

Contribution

It introduces a modified pricing equation and new expressions for market metrics using Taylor series, integrating market-based averages such as VWAP.

Findings

Derived new expressions for mean price and payoff.

Established correlations between price, volume, and their squares.

Proposed forecasting methods for market-based price volatility.

Abstract

We consider the consumption-based asset pricing model, derive a new modified basic pricing equation, and present its successive approximations using the Taylor series expansions of the investor's utility during the averaging time interval. For linear and quadratic Taylor approximations, we derive new expressions for the mean price, mean payoff, volatility, skewness, and the asset's amount that define the maximum of the investor's utility. We discuss the market-based origin of price probability. We use volume weighted average price (VWAP) as a market-based average price and introduce market-based price volatility. The use of VWAP results in zero correlations between the price p and trade volume U. We derive a correlation between price p and squares of trade volume {U^2} and between squares of price {p^2} and volume {U^2}. To predict market-based price volatility, one should forecast the 2-d statistical moments of the market trade values and volumes at the same horizon T.