Harrison G. Hong
Princeton University - Department of Economics; National Bureau of Economic Research (NBER)
David Alexandre Sraer
University of California, Berkeley; Princeton University
NBER Working Paper No. w18548
We provide a model for why high beta assets are more prone to speculative overpricing than low beta ones. When investors disagree about the common factor of cash-flows, high beta assets are more sensitive to this macro-disagreement and experience a greater divergence-of-opinion about their payoffs. Short-sales constraints for some investors such as retail mutual funds result in high beta assets being over-priced. When aggregate disagreement is low, expected return increases with beta due to risk-sharing. But when it is large, expected return initially increases but then decreases with beta. High beta assets have greater shorting from unconstrained arbitrageurs and more share turnover. Using measures of disagreement about stock earnings and economic uncertainty, we verify these predictions. A calibration exercise yields reasonable parameter values.
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Number of Pages in PDF File: 51
Date posted: November 20, 2012
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