Robustness and dynamic sentiment

Pascal J. Maenhout, Andrea Vedolin and Hao Xing

Journal of Financial Economics, 2025, vol. 163, issue C

Abstract: Errors in survey expectations display waves of pessimism and optimism. This paper develops a novel theoretical framework of time-varying beliefs capturing this fact. In our model, dynamic beliefs arise endogenously due to agents’ attitude towards alternative models. Decision-maker’s distorted beliefs generate countercyclical risk aversion, procyclical portfolio weights, and countercyclical equilibrium asset returns. A calibrated version of our model is shown to jointly match salient features in survey data and equity markets.

Keywords: Robust control; Subjective beliefs; Pessimism; Optimism; Cressie-read (search for similar items in EconPapers)
JEL-codes: G11 G12 (search for similar items in EconPapers)
Date: 2025
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Persistent link: https://EconPapers.repec.org/RePEc:eee:jfinec:v:163:y:2025:i:c:s0304405x24001764

DOI: 10.1016/j.jfineco.2024.103953

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