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Unbiased Disagreement in financial markets, waves of pessimism and the risk return tradeoff

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  • Elyès Jouini

    () (CEREMADE - CEntre de REcherches en MAthématiques de la DEcision - Université Paris-Dauphine - CNRS - Centre National de la Recherche Scientifique)

  • Clotilde Napp

    (DRM - Dauphine Recherches en Management - Université Paris-Dauphine - CNRS - Centre National de la Recherche Scientifique)

Abstract

Can investors with irrational beliefs be neglected as long as they are rational on average ? Do their trades cancel out with no consequences on prices, as implicitly assumed by traditional models? We consider a model with irrational investors, who are rational on average. We obtain waves of pessimism and optimism that lead to countercyclical market prices of risk and procyclical risk-free rates. The variance of the state price density is greatly increased. The long run risk-return relation is mod- i ed; in particular, the long run market price of risk might be higher than both the instantaneous and the rational ones.

Suggested Citation

  • Elyès Jouini & Clotilde Napp, 2010. "Unbiased Disagreement in financial markets, waves of pessimism and the risk return tradeoff," Post-Print halshs-00488481, HAL.
  • Handle: RePEc:hal:journl:halshs-00488481
    Note: View the original document on HAL open archive server: https://halshs.archives-ouvertes.fr/halshs-00488481
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    References listed on IDEAS

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    Cited by:

    1. repec:eee:dyncon:v:80:y:2017:i:c:p:101-124 is not listed on IDEAS
    2. Xue-Zhong He & Lei Shi & Min Zheng, 2012. "Asset Pricing Under Keeping Up With the Joneses and Heterogeneous Beliefs," Research Paper Series 302, Quantitative Finance Research Centre, University of Technology, Sydney.
    3. Xue-Zhong He & Lei Shi, 2012. "Heterogeneous Beliefs and the Cross-Section of Asset Returns," Research Paper Series 303, Quantitative Finance Research Centre, University of Technology, Sydney.
    4. Xue-Zhong He, 2012. "Recent Developments on Heterogeneous Beliefs and Adaptive Behaviour of Financial Markets," Research Paper Series 316, Quantitative Finance Research Centre, University of Technology, Sydney.
    5. He, Xue-Zhong & Shi, Lei, 2012. "Disagreement, correlation and asset prices," Economics Letters, Elsevier, vol. 116(3), pages 512-515.
    6. Hongjun Yan, 2010. "Is Noise Trading Cancelled Out by Aggregation?," Management Science, INFORMS, vol. 56(7), pages 1047-1059, July.
    7. Xue-Zhong He & Lei Shi, 2012. "Heterogeneous Beliefs and the Performances of Optimal Portfolios," Research Paper Series 301, Quantitative Finance Research Centre, University of Technology, Sydney.
    8. Hommes, Cars & in ’t Veld, Daan, 2017. "Booms, busts and behavioural heterogeneity in stock prices," Journal of Economic Dynamics and Control, Elsevier, vol. 80(C), pages 101-124.
    9. repec:eee:dyncon:v:78:y:2017:i:c:p:190-205 is not listed on IDEAS

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    Keywords

    irrational investors; rational on average;

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