Strategic Asset Allocation with Heterogeneous Beliefs
35 Pages Posted: 5 Mar 2009 Last revised: 15 Nov 2011
Date Written: November 11, 2011
In this paper, I show how the presence of long-term investors using different return forecasting models and switching these models based on their past performance generates the price trends observed in the nancial markets. I develop an asset pricing model in which agents have long horizon objectives, based on a stream of consumption. Each agent chooses a forecasting model and maximises a recursive utility function. The choice of the forecasting model in each period determines the agent type. Their types, however, change in time and the evolution is endogenous and based on the relative performance of the forecasting models. This happens because agents have an incentive to adopt the forecasting model with the best performance in the previous period to coordinate with the market. I estimate the asset pricing model using data on the international stock markets. I show that especially for very risk averse individuals, the results of the model change completely whether we consider the intertemporal demand for assets, or only its myopic component as it has been done so far in the literature on heterogeneous beliefs.
Keywords: asset pricing, intertemporal asset allocation, heterogeneous beliefs, adaptative learning
JEL Classification: G11, G12, D83, D84
Suggested Citation: Suggested Citation