Asset Mispricing Due to Cognitive Dissonance
IMF Working Papers, January 1, 2005
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Bibliographic details
- Authors: Bernhard Eckwert, Burkhard Drees
- Published: January 1, 2005
- Series: IMF Working Papers
- DOI: https://doi.org/10.5089/9781451860283.001
Summary
- Title: Asset Mispricing Due to Cognitive Dissonance
- Authors: Bernhard Eckwert, Burkhard Drees
- Date: January 1, 2005
- Series: Working Paper No. 2005/009
- Issue: 009
- Volume: 2005
- Pages: 30
- DOI: https://doi.org/10.5089/9781451860283.001
- Stock No: WPIEA2005009
- ISBN: 9781451860283
- ISSN: 1018-5941
- Subject: Asset prices, Price structures, Securities markets, Stock markets, Stocks
- Keywords: mover accent, WP
Model and Mechanism
- General equilibrium model where agents have preferences over both consumption and (implicitly) their beliefs.
- Investors experience cognitive dissonance and endogenously choose to ignore information that conflicts "too much" with their ex ante expectations.
- The decision to ignore information is endogenous and depends on the nature of newly released information.
Main Findings
- Depending on the new information that is released, systematic overvaluation and undervaluation of equity prices arise.
- The model produces instances of "too much" and "too little" equity price volatility relative to benchmarks where information is fully processed.
- The distortion in the asset pricing process is closely related to the precision of the information.
Implications
- Investor belief-driven information filtering can generate persistent asset mispricing.
- Information precision plays a central role: variations in precision alter the extent and direction of price distortions and volatility outcomes.
- Cognitive factors (preferences over beliefs) can be a channel for departures from fully rational asset pricing outcomes.
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Disclaimer: This Working Paper should not be reported as representing the views of the IMF. The views expressed in this Working Paper are those of the author(s) and do not necessarily represent those of the IMF or IMF policy. Working Papers describe research in progress by the author(s) and are published to elicit comments and to further debate.