The Inference-Forecast Gap in Belief Updating

63 Pages Posted: 20 Jul 2021 Last revised: 7 Dec 2023

See all articles by Tony Q. Fan

Tony Q. Fan

University of Alabama

Yucheng Liang

Carnegie Mellon University - David A. Tepper School of Business

Cameron Peng

London School of Economics & Political Science (LSE) - Department of Finance

Date Written: April 27, 2023

Abstract

Evidence from experiments, surveys, and the field has uncovered both underreaction and overreaction to new information. We provide new experimental evidence on the underlying mechanisms of under- and overreaction by comparing how people make inferences and revise forecasts in the same information environment. Participants underreact to signals when inferring about underlying states, but overreact to the same signals when revising forecasts about future outcomes---a phenomenon we term "the inference-forecast gap." We show that this gap is largely driven by different simplifying heuristics used in the two tasks, and we provide evidence supporting both similarity and timing as plausible mechanisms.

Keywords: belief updating, forecast revision, heuristics

JEL Classification: D83, D90

Suggested Citation

Fan, Tony Q. and Liang, Yucheng and Peng, Cameron, The Inference-Forecast Gap in Belief Updating (April 27, 2023). Available at SSRN: https://ssrn.com/abstract=3889069 or http://dx.doi.org/10.2139/ssrn.3889069

Tony Q. Fan

University of Alabama ( email )

P.O. Box 870244
Tuscaloosa, AL 35487
United States

HOME PAGE: http://https://sites.google.com/view/tonyqfan

Yucheng Liang (Contact Author)

Carnegie Mellon University - David A. Tepper School of Business ( email )

5000 Forbes Avenue
Pittsburgh, PA 15213-3890
United States

HOME PAGE: http://yuchengliang.com

Cameron Peng

London School of Economics & Political Science (LSE) - Department of Finance ( email )

United Kingdom

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