Discussion paper

DP6223 Asset Pricing with Adaptive Learning

We study the extent to which self-referential adaptive learning can explain stylized asset pricing facts in a general equilibrium framework. In particular, we analyze the effects of recursive least squares and constant gain algorithms in a production economy and a Lucas type endowment economy. We find that recursive least squares learning has almost no effects on asset price behaviour, since the algorithm converges relatively fast to rational expectations. On the other hand, constant gain learning may contribute towards explaining the stock price and return volatility as well as the predictability of excess returns in the endowment economy. In the production economy, however, the effects of constant gain learning are mitigated by the persistence induced by capital accumulation. We conclude that, contrary to popular belief, standard self-referential learning cannot fully resolve the asset pricing puzzles observed in the data.


Giannitsarou, C and E Carceles-Poveda (2007), ‘DP6223 Asset Pricing with Adaptive Learning‘, CEPR Discussion Paper No. 6223. CEPR Press, Paris & London. https://cepr.org/publications/dp6223