Asset Pricing with Return Extrapolation

65 Pages Posted: 1 Oct 2017 Last revised: 15 Jul 2021

See all articles by Lawrence J. Jin

Lawrence J. Jin

California Institute of Technology

Pengfei Sui

The Chinese University of Hong Kong, Shenzhen

Date Written: July 14, 2021

Abstract

We present a new model of asset prices in which a representative agent has extrapolative beliefs about stock market returns and Epstein-Zin preferences. The model quantitatively explains facts about asset prices, return expectations, and cash-flow expectations. When the agent's beliefs about stock market returns are calibrated to survey expectations of investors, the model generates excess volatility and predictability of stock market returns, a high equity premium, a low and stable risk-free rate, and a low correlation between stock market returns and consumption growth. Moreover, the model has implications for expectations about future cash flows that are consistent with empirical findings.

Keywords: expectations, extrapolation, asset prices

JEL Classification: G02, G12

Suggested Citation

Jin, Lawrence J. and Sui, Pengfei, Asset Pricing with Return Extrapolation (July 14, 2021). Journal of Financial Economics (JFE), Forthcoming, Available at SSRN: https://ssrn.com/abstract=3045658 or http://dx.doi.org/10.2139/ssrn.3045658

Lawrence J. Jin (Contact Author)

California Institute of Technology ( email )

1200 E. California Blvd.
MC 228-77
Pasadena, CA 91125
United States
626-395-4558 (Phone)

HOME PAGE: http://www.hss.caltech.edu/content/lawrence-jin

Pengfei Sui

The Chinese University of Hong Kong, Shenzhen ( email )

2001 Longxiang Road, Longgang District
Shenzhen, 518172
China
15810011687 (Phone)
518172 (Fax)

HOME PAGE: http://www.pengfeisui.com

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