Asset pricing with flexible beliefs

Axioglou Christos and Skouras Spyros ()
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Axioglou Christos: Ministry of Finance, Greece
Skouras Spyros: Athens University of Economics and Business – Department of International and European Economic Studies, Greece

Studies in Nonlinear Dynamics & Econometrics, 2015, vol. 19, issue 4, 415-443

Abstract: We develop a present-value asset pricing model with an econometrically useful representation that accommodates a plethora of stylized assumptions about beliefs. Using 20th century S&P500 data we use our model to compare the empirical fit of belief assumptions associated with rational expectations, asymmetic information, learning, behavioral effects and evolution. Among these, asymmetric information with evolution is particularly useful both in terms of statistical criteria and in terms of ability to explain the equity premium, excess volatility and predictability of returns. Our work suggests that popular relaxations of rationality can easily lead to econometric representations that may be impossible to work with in empirical research. Furthermore, replication of stylized facts may be too weak a requirement when evaluating such models. Fortunately, there exist simple relaxations of rationality that are sufficient to drastically improve the empirical fit of models with full rationality.

Keywords: asset pricing; behavioral finance; evolution; learning (search for similar items in EconPapers)
Date: 2015
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DOI: 10.1515/snde-2013-0110

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