Investor Sophistication and Portfolio Dynamics

Adrian Buss, Grigory Vilkov and Raman Uppal

No 15116, CEPR Discussion Papers from Centre for Economic Policy Research

Abstract: We develop a simple dynamic general-equilibrium framework that can jointly rationalize many empirically observed features of household portfolios, investment returns, and wealth dynamics. The model differs from traditional models only along a single, natural dimension: households differ in their confidence about the return processes for risky assets. Less-confident households (but with unbiased beliefs) overinvest in safe assets, hold underdiversified portfolios concentrated in familiar assets, are trend chasers, and earn lower absolute and risk-adjusted investment returns. More confident households hold riskier positions and exhibit superior market-timing abilities. Despite Bayesian learning, this investment behavior persists for long periods, thereby exacerbating wealth inequality.

Keywords: Household finance; Portfolio dynamics; Wealth inequality; Belief formation; Investors' expectations; Trend chasing; Market timing (search for similar items in EconPapers)
JEL-codes: D53 G11 G51 G53 (search for similar items in EconPapers)
Date: 2020-07
New Economics Papers: this item is included in nep-cwa, nep-dge and nep-fdg
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