Finance Research Seminar - Lorenzo BRETSCHER - LSE
Friday 24 January 2020 (9h00 - 10h30) - Extranef - 118.1
News, Beliefs, and Aggregate Risk
We infer agents’ expectations about future fundamentals using a New-Keynesian general equilibrium model augmented with expectation, or news, shocks. Accounting for agents’ expectations at the business cycle horizon results in aggregate risk factor innovations that have significant explanatory power for the cross-section of stock and bond returns. Further, disentangling the correctly anticipated changes in fundamentals from the variation in beliefs that ultimately do not realize, we find that the pure belief component of news is important to explain the value premium. In contrast, exposure to correctly anticipated changes in future fundamentals is important for long-term bonds and cash-flow duration portfolios.