The Real-Time Distribution of Stochastic Discount Factors
I use option prices to infer real-time distributions of stochastic discount factors. The distribution of the discount factor is characterized by its moments. The moments are estimated, from daily S&P 500 index option data, in real time, without relying on past observations. These moments are forward-looking and significantly predict the market excess return. A cross-sectional analysis shows that SDF moments are priced in the cross-section of returns. The theory suggests that the SDF variance (kurtosis) is positively priced in the cross-section of returns while the SDF skewness is negatively priced in the cross section of returns. Estimates of the price of risks associated with the moments of the SDF are economically and statistically significant after controlling for a comprehensible set of economic variables.