Asset Pricing Under Keeping Up With the Joneses and Heterogeneous Beliefs
When agents agree to disagree about the expected growth rate of the aggregate endowment process, we study the asset price dynamics under "Keeping up with the Joneses" (KUJ) meaning that each agent maximizes the expected life-time CRRA utility of his relative consumption to the other agent in the economy. By solving the optimal consumption policies analytically, we obtain the market equilibrium under heterogeneous beliefs. We provide conditions for agents' long-run survival and show that the market price of risk, risk-free rate, price-dividend ratio in market equilibrium are the consumption share weighted averages of these variables under each agent's belief. We also show the cyclical behaviour of Sharpe ratio, risk-free rate, price and dividend ratio and stock volatility. Through Monte Carlo simulations, we find that, when the less risk averse agent is relatively optimistic, allowing a small amount of disagreement between agents can explain many market characterizes including excess volatility, a high equity premium and a low risk-free rate identified in financial markets.
|Date of creation:||01 Mar 2012|
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- Elyès Jouini & Clotilde Napp, 2007.
"Consensus Consumer and Intertemporal Asset Pricing with Heterogeneous Beliefs,"
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2894690, Harvard University Department of Economics.
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- Campbell, John & Cochrane, John H., 1999. "By Force of Habit: A Consumption-Based Explanation of Aggregate Stock Market Behavior," Scholarly Articles 3119444, Harvard University Department of Economics.
- Andrea Buraschi & Alexei Jiltsov, 2006. "Model Uncertainty and Option Markets with Heterogeneous Beliefs," Journal of Finance, American Finance Association, vol. 61(6), pages 2841-2897, December.
- Clotilde Napp & Elyès Jouini, 2006. "Heterogeneous Beliefs and Asset Pricing in Discrete Time," Post-Print halshs-00151536, HAL.
- Costas Xiouros & Fernando Zapatero, 2010. "The Representative Agent of an Economy with External Habit Formation and Heterogeneous Risk Aversion," Review of Financial Studies, Society for Financial Studies, vol. 23(8), pages 3017-3047, August.
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- Elyès Jouini & Clotilde Napp, 2010.
"Unbiased Disagreement in Financial Markets, Waves of Pessimism and the Risk-Return Trade-off,"
Review of Finance,
European Finance Association, vol. 15(3), pages 575-601.
- Elyès Jouini & Clotilde Napp, 2010. "Unbiased Disagreement in financial markets, waves of pessimism and the risk return tradeoff," Post-Print halshs-00488481, HAL.
- repec:dau:papers:123456789/78 is not listed on IDEAS
- Masahiro Watanabe, 2008. "Price Volatility and Investor Behavior in an Overlapping Generations Model with Information Asymmetry," Journal of Finance, American Finance Association, vol. 63(1), pages 229-272, 02.
- Giordani, Paolo & Soderlind, Paul, 2006. "Is there evidence of pessimism and doubt in subjective distributions? Implications for the equity premium puzzle," Journal of Economic Dynamics and Control, Elsevier, vol. 30(6), pages 1027-1043, June.
- H. Henry Cao & Hui Ou-Yang, 2009. "Differences of Opinion of Public Information and Speculative Trading in Stocks and Options," Review of Financial Studies, Society for Financial Studies, vol. 22(1), pages 299-335, January.
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