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Asset Mispricing Due to Cognitive Dissonance

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  • Bernhard Eckwert
  • Burkhard Drees

Abstract

The behavior of equity prices is analyzed in a general equilibrium model where agents have preferences not only over consumption but also (implicitly) over their beliefs. To alleviate cognitive dissonance, investors endogenously choose to ignore information that conflicts too much with their ex ante expectations. Depending on the new information that is released, systematic overvaluation and undervaluation of equity prices arise, as well as too much and too little equity price volatility. The distortion in the asset pricing process is closely related to the precision of the information.

Suggested Citation

  • Bernhard Eckwert & Burkhard Drees, 2005. "Asset Mispricing Due to Cognitive Dissonance," IMF Working Papers 05/9, International Monetary Fund.
  • Handle: RePEc:imf:imfwpa:05/9
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    References listed on IDEAS

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    Cited by:

    1. Colin Ellis, 2014. "Break-even maturity as a guide to financial distress," Contemporary Economics, University of Finance and Management in Warsaw, vol. 8(4), December.

    More about this item

    Keywords

    Asset prices; Asset pricing; behavioral finance; cognitive dissonance; investors; stock prices; stock market; stock price; financial economics;

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