Asset Pricing with Heterogeneous Preferences, Beliefs, and Portfolio Constraints
42 Pages Posted: 24 Oct 2014 Last revised: 23 Apr 2015
Date Written: August 1, 2014
Portfolio constraints are widespread and have significant effects on asset prices. This paper studies the effects of constraints in a dynamic economy populated by investors with different risk aversions and beliefs about the rate of economic growth. The paper provides a comparison of various constraints and conditions under which these constraints help match certain empirical facts about asset prices. Under these conditions, borrowing and short-sale constraints decrease stock return volatilities, whereas limited stock market participation constraints amplify them. Moreover, borrowing constraints generate spikes in interest rates and volatilities and have stronger effects on asset prices than short-sale constraints.
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