We study asset pricing implications of a revealing and tractable formulation of smooth ambiguity investor preferences in a continuous-time environment. Investors do not observe a hidden Markov state and instead make inferences about this state using past data. We show that ambiguity about this hidden state distribution alters investor decisions and equilibrium asset prices. Our continuous-time formulation allows us to apply recursive filtering and Hamilton-Jacobi-Bellman methods to solve the modified decision problem. Using such methods, we show how characterizations of portfolio allocations and local uncertainty-return tradeoffs change when investors are ambiguity-averse.

More on this topic

BFI Working Paper·Apr 7, 2025

Non-User Utility and Market Power: The Case of Smartphones

Leonardo Bursztyn, Rafael Jiménez-Durán, Aaron Leonard, Filip Milojević, and Christopher Roth
Topics: Financial Markets
BFI Working Paper·Apr 7, 2025

Asset Embeddings

Xavier Gabaix, Ralph Koijen, Robert J. Richmond, and Motohiro Yogo
Topics: Financial Markets
BFI Working Paper·Mar 20, 2025

Credit Card Entrepreneurs

Ufuk Akcigit, Raman S. Chhina, Seyit Cilasun, Javier Miranda, and Nicolas Serrano-Velarde
Topics: Financial Markets