Working Paper: NBER ID: w18548
Authors: Harrison Hong; David Sraer
Abstract: We provide a model for why high beta assets are more prone to speculative overpricing than low beta ones. When investors disagree about the common factor of cash-flows, high beta assets are more sensitive to this macro-disagreement and experience a greater divergence-of-opinion about their payoffs. Short-sales constraints for some investors such as retail mutual funds result in high beta assets being over-priced. When aggregate disagreement is low, expected return increases with beta due to risk-sharing. But when it is large, expected return initially increases but then decreases with beta. High beta assets have greater shorting from unconstrained arbitrageurs and more share turnover. Using measures of disagreement about stock earnings and economic uncertainty, we verify these predictions. A calibration exercise yields reasonable parameter values.
Keywords: beta; speculative overpricing; investor disagreement
JEL Codes: G02; G11; G12
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| high beta assets (G12) | speculative overpricing (G13) |
| high beta stocks (C46) | sensitivity to macroeconomic disagreement (E39) |
| aggregate disagreement low (C43) | expected returns increase with beta (C46) |
| aggregate disagreement high (C43) | expected returns decrease for high beta assets (G12) |
| aggregate disagreement high (C43) | inverted U-shaped relationship between risk and return (D81) |
| high beta stocks (C46) | greater divergence of opinion about payoffs (D79) |
| pessimistic investors sidelined (G40) | overpricing of high beta stocks (G12) |
| aggregate disagreement high (C43) | speculative premium increases for high beta assets (G12) |