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X-CAPM: An Extrapolative Capital Asset Pricing Model

  • Nicholas Barberis
  • Robin Greenwood
  • Lawrence Jin
  • Andrei Shleifer

Survey evidence suggests that many investors form beliefs about future stock market returns by extrapolating past returns. Such beliefs are hard to reconcile with existing models of the aggregate stock market. We study a consumption-based asset pricing model in which some investors form beliefs about future price changes in the stock market by extrapolating past price changes, while other investors hold fully rational beliefs. We find that the model captures many features of actual prices and returns; importantly, however, it is also consistent with the survey evidence on investor expectations.

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Paper provided by Harvard University OpenScholar in its series Working Paper with number 86521.

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Handle: RePEc:qsh:wpaper:86521
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  1. De Long, J Bradford, et al, 1990. " Positive Feedback Investment Strategies and Destabilizing Rational Speculation," Journal of Finance, American Finance Association, vol. 45(2), pages 379-95, June.
  2. Fama, Eugene F. & French, Kenneth R., 1988. "Dividend yields and expected stock returns," Journal of Financial Economics, Elsevier, vol. 22(1), pages 3-25, October.
  3. Barro, Robert, 2006. "Rare Disasters and Asset Markets in the Twentieth Century," Scholarly Articles 3208215, Harvard University Department of Economics.
  4. Ravi Bansal & Amir Yaron, 2004. "Risks for the Long Run: A Potential Resolution of Asset Pricing Puzzles," Journal of Finance, American Finance Association, vol. 59(4), pages 1481-1509, 08.
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  8. Robert J. Shiller, 1980. "Do Stock Prices Move Too Much to be Justified by Subsequent Changes in Dividends?," NBER Working Papers 0456, National Bureau of Economic Research, Inc.
  9. Hansen, Lars Peter & Singleton, Kenneth J, 1983. "Stochastic Consumption, Risk Aversion, and the Temporal Behavior of Asset Returns," Journal of Political Economy, University of Chicago Press, vol. 91(2), pages 249-65, April.
  10. John H. Cochrane, 2011. "Presidential Address: Discount Rates," Journal of Finance, American Finance Association, vol. 66(4), pages 1047-1108, 08.
  11. LeRoy, Stephen F & Porter, Richard D, 1981. "The Present-Value Relation: Tests Based on Implied Variance Bounds," Econometrica, Econometric Society, vol. 49(3), pages 555-74, May.
  12. Jessica Wachter, 2008. "Can time-varying risk of rare disasters explain aggregate stock market volatility?," 2008 Meeting Papers 944, Society for Economic Dynamics.
  13. Xavier Gabaix, 2008. "Variable Rare Disasters: An Exactly Solved Framework for Ten Puzzles in Macro-Finance," NBER Working Papers 13724, National Bureau of Economic Research, Inc.
  14. repec:oup:qjecon:v:126:y:2011:i:1:p:373-416 is not listed on IDEAS
  15. Allan G. Timmermann, 1993. "How Learning in Financial Markets Generates Excess Volatility and Predictability in Stock Prices," The Quarterly Journal of Economics, Oxford University Press, vol. 108(4), pages 1135-1145.
  16. Matthew Rabin, 2002. "Inference by Believers in the Law of Small Numbers," The Quarterly Journal of Economics, Oxford University Press, vol. 117(3), pages 775-816.
  17. Ulrike Malmendier & Stefan Nagel, 2009. "Depression Babies: Do Macroeconomic Experiences Affect Risk-Taking?," NBER Working Papers 14813, National Bureau of Economic Research, Inc.
  18. Rietz, Thomas A., 1988. "The equity risk premium a solution," Journal of Monetary Economics, Elsevier, vol. 22(1), pages 117-131, July.
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