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Heterogenous Beliefs and Tests of Present Value Models

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This paper develops a dynamic asset pricing model with persistent heterogeneous beliefs. The model features competitive traders who receive idiosyncratic signals about an underlying fundamentals process. We adapt Futia’s (1981) frequency domain methods to derive conditions on the fundamentals that guarantee noninvertibility of the mapping between observed market data and the underlying shocks to agents’ information sets. When these conditions are satisfied, agents must ‘forecast the forecasts of others’. The additional dynamics of the heterogeneous beliefs equilibrium can account for observed violations of variance bounds, predictability of excess returns, and rejections of cross-equation restrictions.

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  • Ken Kasa & Todd Walker & Charles Whiteman, 2012. "Heterogenous Beliefs and Tests of Present Value Models," Discussion Papers dp12-06, Department of Economics, Simon Fraser University.
    • Handle: RePEc:sfu:sfudps:dp12-06
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    Keywords

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    JEL classification:

    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • D82 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Asymmetric and Private Information; Mechanism Design

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