Prof. Dr. Sebastian Ebert Top finance publication by AWI faculty member

Sebastian Ebert’s paper “Π-CAPM: The Classical CAPM with Probability Weighting and Skewed Assets” (joint with Joost Driessen and Joren Koëter), is forthcoming in the Review of Financial Studies. It is the second publication of Professor Ebert in one of the prestigious “top 3” finance journals.

 The authors show that human irrationality is reflected in asset prices. Probability weighting bias, referring to systematic mistakes in humans’ handling of probabilities, predicts the overpricing of some assets and the underpricing of others. The authors’Π-CAPM (“probability-weighted” capital asset pricing model) shows that prices of skewed assets – assets that have extreme returns with small probability – are affected by probability weighting bias. Volatility is shown to moderate the pricing implications of probability weighting for skewed assets. The paper’s theoretical predictions are in line with data on individual stock and derivative prices.

The paper is part of a larger research agenda of Sebastian Ebert that aims at understanding human behavior toward low-probability, high-impact (i.e., “skewed”) risks, funded by the European Research Council (ERC).