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Beliefs Aggregation and Return Predictability

Albert Kyle (), Anna Obizhaeva () and Yajun Wang ()
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Albert Kyle: Robert H. Smith School of Business, University of Maryland
Yajun Wang: Robert H. Smith School of Business, University of Maryland

No w0231, Working Papers from Center for Economic and Financial Research (CEFIR)

Abstract: We study return predictability using a dynamic model of speculative trading among relatively overconfident competitive traders who agree to disagree about the precision of their private information. The return process depends on both parameter values used by traders and empirically correct parameter values. Although traders apply Bayes Law consistently, equilibrium returns are predictable based on current and past dividends and prices. We derive specific conditions under which excess returns exhibit realistic patterns of short-run momentum and long-run mean-reversion. We clarify the concepts of rational expectations and market efficiency in a setting with differences in beliefs.

Keywords: asset pricing; predictability; market microstructure; market efficiency; momentum; mean-reversion; anomalies; agreement to disagree (search for similar items in EconPapers)
JEL-codes: B41 D8 G02 G12 G14 (search for similar items in EconPapers)
Pages: 67 pages
Date: 2016-08
New Economics Papers: this item is included in nep-mst
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