Intangible capital, volatility shock, and the value premium

This paper extends the canonical, neoclassical investment-based asset-pricing model through the incorporation of intangible capital and the formulation of a joint productivity distribution with economic uncertainty shocks at the firm level. The distinctive evolutionary dynamics of intangible capital as opposed to that of physical capital mitigate the negative impact of temporary uncertainty shock on production and serve well to explain the value premium with modest assumptions. The value premium is unconditionally positive, but the realized value spread plummets to negative after major transient second-moment shocks, for example, the Loma Prieta Earthquake and the 9/11 terrorist attack.