Dynamics of Asset Demands with Confidence Heterogeneity

Adrian Buss, Raman Uppal and Grigory Vilkov

No 16441, CEPR Discussion Papers from Centre for Economic Policy Research

Abstract: To understand the dynamics of investors' asset demands, we develop a general-equilibrium model driven by a single latent variable: heterogeneity in investors' confidence about mean endowment growth. The model predicts persistent heterogeneity in asset demands and concentrated portfolios. Consistent with the data, limited confidence reduces investors' demand elasticities and makes stock prices excessively volatile - driven by latent demand rather than observable characteristics. The underlying economic mechanisms are driven primarily by investors' desire to hedge changes in future beliefs instead of current disagreement. Finally, consistent with survey data, investors' expectations correlate positively with past returns and negatively with future returns.

Keywords: Demand; elasticity (search for similar items in EconPapers)
JEL-codes: D53 G11 G12 (search for similar items in EconPapers)
Date: 2021-08
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