Explaining Asset Mispricing Using the Resale Option and Inflation Illusion
Posted: 31 Aug 2010 Last revised: 30 Dec 2013
Date Written: March 29, 2010
We investigate the overconfidence theory and inflation illusion hypothesis of asset mispricing. Both concepts address subjective asset valuation but place the impetus on differing explanations within the standard dividend-growth model. We find that one of the theoretical outcomes of overconfidence – asset turnover – consistently explains mispricing in U.S. housing markets. Further, we find that asset turnover subsumes expected inflation in certain specifications; suggesting that dispersion in investors’ beliefs is a better explanation of asset mispricing than the investors’ inability to properly discount future cash flows.
Keywords: Asset Mispricing, Heterogeneous Beliefs, Resale Option, Overconfidence Theory, Inflation Illusion, Money-Illusion, Asset Turnover
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