Title

Uncertainty and risk premium

Document Type

Conference Proceeding

Publisher

School of Business & Law, Edith Cowan University

Place of Publication

Perth, Australia

School

School of Business and Law

RAS ID

26746

Comments

Originally published as: Golab, A. (2017). Uncertainty and risk premium. In Djajadikerta, H., Yong, J., Mat Roni, S., Ong, T., & Jogulu, U. (eds), Proceeding of 2nd Business Doctoral & Emerging Scholars Conference, Perth, pp. page number. Original article available here

Abstract

Uncertainty can be described as a situation of missing or unknown information but is having a direct impact on the decision-making process. Particularly recently, during the last periods of turmoil, we were able to experience how uncertainty matters for economic decision-making and their impact on the financial market. The literature has proposed three main channels through which uncertainty potentially affects the real economy. This study focuses on the second channel that goes through the risk premium, as investors are likely to demand a higher risk premium. Using MIDAS approach, the relationship between one of the uncertainty measure the fear index VIX and the risk premium is studied. The data refers to the United States, as the country which has the most highly developed capital markets in the world. Its assumed that forecasting process is important for policymakers, especially during the period with a high level of uncertainty. This paper demonstrates that the forecasting process could improve by using the mixed-frequency sampling approach and by introducing uncertainty into the model using the fear index.

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