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Prices and Portfolio Choices in Financial Markets: Theory, Econometrics, Experiments

  • Peter Bossaerts

    (California Institute of Technology Centre for Economic Policy Research and Swiss Finance Institute)

  • Charles Plott

    (California Institute of Technology)

  • William R. Zame

    (UCLA and California Institute of Technology)

Many tests of asset pricing models address only the pricing predictions — but these pricing predictions rest on portfolio choice predictions which seem obviously wrong. This paper suggests a new approach to asset pricing and portfolio choices, based on unobserved heterogeneity. This approach yields the standard pricing conclusions of classical models but is consistent with very different portfolio choices. Novel econometric tests link the price and portfolio predictions and take account of the general equilibrium effects of sample-size bias. The paper works through the approach in detail for the case of the classical CAPM, producing a model called CAPM+€. When these econometric tests are applied to data generated by large-scale laboratory asset markets which reveal both prices and portfolio choices, CAPM+€ is not rejected.

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Paper provided by Swiss Finance Institute in its series Swiss Finance Institute Research Paper Series with number 07-05.

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Length: 61 pages
Date of creation: Jul 2003
Date of revision: Mar 2007
Handle: RePEc:chf:rpseri:rp0705
Contact details of provider: Web page: http://www.SwissFinanceInstitute.ch

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