Model-Free International Stochastic Discount Factors

75 Pages Posted: 11 Jun 2018

See all articles by Mirela Sandulescu

Mirela Sandulescu

University of Michigan, Ross School of Business

Fabio Trojani

Swiss Finance Institute; University of Geneva

Andrea Vedolin

Boston University - Department of Finance & Economics

Multiple version iconThere are 2 versions of this paper

Date Written: June 2018


We provide a theoretical characterization of international stochastic discount factors (SDFs) in incomplete markets under different degrees of market segmentation. Using 40 years of data on a cross-section of countries, we estimate model-free SDFs and factorize them into permanent and transitory components. We find that large permanent SDF components help to reconcile the low exchange rate volatility, the exchange rate cyclicality, and the forward premium anomaly. However, integrated markets entail highly volatile and almost perfectly comoving international SDFs. In contrast, segmented markets can generate less volatile and more dissimilar SDFs. In quest of relating the SDFs to economic fundamentals, we document strong links between proxies of financial intermediaries' risk-bearing capacity and model-free international SDFs. We interpret this evidence through the lens of an economy with two building blocks: limited participation by households and financiers who face an intermediation friction.

Keywords: Exchange Rates, financial intermediaries, market incompleteness, Market Segmentation, Stochastic discount factor

JEL Classification: F31, G15

Suggested Citation

Sandulescu, Mirela and Trojani, Fabio and Vedolin, Andrea, Model-Free International Stochastic Discount Factors (June 2018). CEPR Discussion Paper No. DP12971, Available at SSRN:

Mirela Sandulescu (Contact Author)

University of Michigan, Ross School of Business ( email )

701 Tappan Street
Ann Arbor, MI MI 48109
United States

Fabio Trojani

Swiss Finance Institute ( email )

c/o University of Geneva
40, Bd du Pont-d'Arve
CH-1211 Geneva 4

University of Geneva ( email )

Geneva, Geneva

Andrea Vedolin

Boston University - Department of Finance & Economics ( email )

595 Commonwealth Avenue
Boston, MA 02215
United States

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