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Evolutionary beliefs and financial markets

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  • Napp, Clotilde
  • Viossat, Yannick
  • Jouini, Elyès

Abstract

Why do investors keep different opinions even though they learn from their own failures and successes? Why do investors keep different opinions even though they observe each other and learn from their relative failures and successes? We analyze beliefs dynamics when beliefs result from a very general learning process that favors beliefs leading to higher absolute or relative utility levels. We show that such a process converges to the Nash equilibrium in a game of strategic belief choices. The asymptotic beliefs are subjective and heterogeneous across the agents. Optimism (respectively overconfidence) as well as pessimism (respectively doubt) emerge from the learning process. Furthermore, we obtain a positive correlation between pessimism (respectively doubt) and risk tolerance. Under reasonable assumptions, beliefs exhibit a pessimistic bias and, as a consequence, the risk premium is higher than in a standard setting.

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File URL: http://basepub.dauphine.fr/xmlui/bitstream/123456789/5772/2/stratevolFinal-2.pdf
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Bibliographic Info

Paper provided by Paris Dauphine University in its series Economics Papers from University Paris Dauphine with number 123456789/5772.

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Date of creation: 2013
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Publication status: Published in Review of Finance, 2013, Vol. 17, no. 2. pp. 727-766.Length: 39 pages
Handle: RePEc:dau:papers:123456789/5772

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Keywords: heterogeneous beliefs; Beliefs formation; evolutionary game theory; risk premium; pessimism;

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