Demand Disagreement

Abstract

Disagreement about future yields cannot be accounted for by disagreement over fundamental macroeconomic variables. This disconnect creates a “disagreement correlation” puzzle, as equilibrium models with belief differences impose a strong link between asset return disagreement and fundamental disagreement. Our demand disagreement model, based on disagreement about future time preferences, explains the low correlation between asset returns and fundamentals, as well as return disagreement driven by future discount rate differences unrelated to macroeconomic fundamentals. The model also aligns with asset pricing facts, showing that demand disagreement predicts bond risk premia, correlates with yield volatilities, and generates an upward-sloping yield curve.

Keywords: Disagreement correlation puzzle, correlation puzzle, demand disagreement, heterogeneous beliefs and time preferences, bond risk premia, bond yield volatility, bond return predictability, asset pricing anomalies

JEL Classification: D51, G10, G11, G12