Preference Evolution and Asset Prices

Project Start:06/2014
Status:Completed
Researchers:Giuliano Curatola, Ilya Dergunov
Category: Macro Finance
Funded by:LOEWE

Classic financial analysis assumes that individual preferences are exogenous and constant over time. However, agents’ preference might evolve over time for many reasons, such as for instance, social interaction, family motives, environmental factors or age-related issues. In this project we analyze the case of preference evolution driven by social interaction. More precisely, agents in the economy are sensitive to fashion cycles of consumption goods that, in turn, depend on individuals’ optimal consumption choices. Some agents are conformist and their preferences evolve in favor of fashionable goods while others are anti-conformist and their preferences evolve in favor of out-of-fashion goods. The main goal of the project is to study the implication of preference evolution for investors' trading strategy, asset prices and return dynamics in a Lucas-type exchange economy. We find that, when preferences evolve over time, agents tend to herd and hold the same portfolio of risky assets which are biased toward stocks of sectors that produce a socially preferred consumption good. Moreover, time-variation in preferences makes price-dividend ratios, expected returns and return volatility time-varying. In this way, preference evolution generates many empirical features of financial markets, such as the value premium, momentum and means reversion in stock returns and makes the return volatility greater than the volatility of cash flows. The theoretical model is developed and solved. The empirical analysis is still in progress. We expect to deliver the SAFE working by the end of December 2015.

 

Related Published Papers

Author/sTitleYearProgram AreaKeywords
Giuliano CuratolaPortfolio Choice and Asset Prices when Preferences are Interdependent
Journal of Economic Behavior & Organization
2017 Macro Finance Asset pricing; General equilibrium; heterogeneous investors; interdependent preferences; portfolio choice

Related Working Papers

No.Author/sTitleYearProgram AreaKeywords
128Giuliano CuratolaPreference Evolution and the Dynamics of Capital Markets2016 Macro Finance Asset pricing, general equilibrium, heterogeneous investors, interdependent preferences, portfolio choice
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