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Belief Overreaction and Stock Market Puzzles - Andrei Shleifer

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💫 Short Summary

The video explores the relationship between stock prices, expectations, and beliefs in financial economics, emphasizing the impact of changing beliefs on stock price volatility. It challenges traditional rational expectations and highlights the role of overreaction of beliefs in driving pricing anomalies. The importance of long-term growth rate expectations in predicting returns is discussed, with optimism leading to disappointment and lower returns. The model predicts that overreactions in long-term growth expectations result in negative predictability in errors and returns. The significance of incorporating expectations in financial modeling and understanding investor sentiment is emphasized.

✨ Highlights
📊 Transcript
Professor Andre Schleier presents a new paper on addressing excess stock price volatility through expectations and beliefs in financial economics.
02:59
Schleier discusses the present value formula and rational expectations operator in relation to stock market valuation.
Robert Schiller's 1981 test revealed significant volatility discrepancies in the basic valuation equation, indicating the complexity of stock market valuation.
Relationship between stock prices, future dividends, and discount rates.
07:04
High valuations may not align with low expectations of returns.
Changing beliefs impact stock price volatility.
Research agenda explores various models and theories.
Direct measurement of changing risk attitudes is challenging.
Key Highlights:
12:39
The importance of using survey data for expectations in understanding financial markets.
Changes in required returns or risk aversion are not necessary to explain financial market evidence.
Overreaction of beliefs to fundamentals is a driving force behind pricing anomalies and return predictability.
Strong earnings growth can lead to excess optimism, affecting price dividend ratios and predictably low returns in the stock market.
Calculating long-term growth rates of earnings for individual stocks and the market.
16:03
Aggregation of earnings forecasts for up to five fiscal years and dividends per share.
Importance of observed forecasts and utilizing standard sources like CFO surveys and Schiller's website.
Asset pricing models such as Campo Schiller decomposition and calibration using average constants.
Emphasis on the predictability of returns based on earnings indexes and volatility of price indexes.
Importance of Long-Term Growth Rate Expectations in Predicting Returns.
21:56
Short-term growth rates are not as relevant for predicting returns compared to long-term growth rates.
Analysts' one and two-year ahead earnings growth expectations do not significantly impact return predictability.
Overly optimistic long-term earnings growth forecasts can lead to low index returns due to overreactions to information.
Measured expectations are key in understanding market dynamics and providing return predictability and access volatility.
Relationship between LTG and return predictability.
27:27
LTG's predictive power is attributed to capturing variations in required returns or non-rational market expectations.
Results show that LTG consistently predicts long-run returns on the stock market negatively.
Risk measures are generally insignificant in return predictability.
The analysis seeks to understand changes in LTG and their implications.
The impact of LTG expectations on prices and returns in financial markets.
32:30
The model examines forecast errors and abnormal returns based on changes in expectations and past growth rates.
Overreactions in LTG expectations result in negative predictability in errors and returns.
Understanding expectation shocks is crucial for assessing volatility and predictability in financial markets.
The impact of forecast errors on long-term earnings growth predictions.
34:04
Revising earnings growth forecasts upwards can lead to lower returns than anticipated.
The significance of the three columns in predicting forecast errors and future returns is highlighted, demonstrating a pattern of increased optimism leading to disappointment.
The model suggests that expectations of long-term growth tend to overreact, ultimately resulting in increased disappointment.
Excess volatility in prices and negative impacts on returns are discussed in relation to optimism in forecasting.
Importance of Optimism and Rational Expectations in Future Returns.
42:25
Firm-level regressions and fixed effects are used to analyze data patterns and predict future returns.
Traditional finance models are challenged by introducing flexibility and discipline in expectation modeling using empirical data.
Cross-sectional evidence in the last 30 years shows systematic movement in returns explained by exposure to risk factors.
Importance of Systematic Irrationality in Financial Markets.
43:30
Emphasis on the significance of aggregate LTG in capturing investor sentiment and volatility.
Systematic movements in sentiment, reflected in future returns, are highlighted.
Exposure to expectation factors is more relevant than traditional risk factors.
Impact of changes in expectations of long-term earnings growth on stock returns and profitability is discussed.
Importance of focusing on long-term expectations in financial markets.
51:13
Using expectations can provide valuable insights and empirical evidence for building models with different investor perspectives.
This approach aims to address issues in a more nuanced way and move beyond standard methods of analysis.
Speaker emphasizes the effectiveness of incorporating expectations in financial modeling.
Potential benefits of considering diverse investor perspectives are highlighted.
Key Highlights from the Video Segment
52:54
The research emphasizes understanding investor expectations, beliefs, and preferences in market equilibrium.
Different types of investors' beliefs should be taken into account in future models.
The discussion includes analysis of dividends and cash flow, as well as separate evaluations of earnings and dividends.
Combining earnings and dividends in more elaborate formulations is discussed for its implications in analysis.
AI revolutionizing measurement of expectations in finance.
01:00:14
Exploring new ways to understand returns by leveraging more data.
Emphasizing the importance of moving away from time-varying discount rates towards realistic financial analysis.
Audience thanked for attending presentation aimed at sharing research with universities without access to academic experts like Professor Scher.
Gratitude for collaboration on future seminars and the FMA website.
01:01:35
The speaker thanks the Professor for participating in the collaboration.
The experience is described as wonderful.