Heterogeneous Beliefs, Speculation, and the Equity Premium

49 Pages Posted: 28 Jun 2004 Last revised: 26 Nov 2008

See all articles by Alexander David

Alexander David

University of Calgary - Haskayne School of Business


Agents with heterogeneous beliefs about fundamental growth do not perfectly share risks but instead speculate with each other on the relative accuracy of their models' predictions. They face the risk that market prices move more in line with the trading models of competing agents rather than their own. Less risk averse agents speculate more aggressively and demand higher risk premiums. Our calibrated model generates countercyclical consumption volatility, earnings forecast dispersion, and cross-sectional consumption dispersion. With a risk aversion coefficient less than one, agents' speculation causes half the observed equity premium and lowers the riskless rate by one percent.

Keywords: Speculation, Dispersion, Model Disagreement, Effectively Incomplete Markets, Endogenous Risk

JEL Classification: G11, G12, G13, D52, D83

Suggested Citation

David, Alexander, Heterogeneous Beliefs, Speculation, and the Equity Premium. Journal of Finance, January 2008; EFA 2004 Maastricht Meetings Paper No. 3125; AFA 2005 Philadelphia Meetings. Available at SSRN: https://ssrn.com/abstract=607461 or http://dx.doi.org/10.2139/ssrn.607461

Alexander David (Contact Author)

University of Calgary - Haskayne School of Business ( email )

2500 University Drive, NW
Calgary, Alberta T2N 1N4

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