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Biased Beliefs, Asset Prices, and Investment: A Structural Approach




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    • Aydoğan Alti is from the University of Texas at Austin. Paul Tetlock is from Columbia University. A prior version of this manuscript was entitled “How Important Is Mispricing?” We appreciate helpful suggestions from the Associate Editor, an anonymous referee, Nick Barberis, Jonathan Berk, Alon Brav, John Campbell, Murray Carlson, Josh Coval, Wayne Ferson, Cam Harvey, Martin Lettau, Erica Li, Sheridan Titman, Toni Whited, Jeff Wurgler, and seminar participants at the Michigan SFS, the NBER Behavioral, and the WFA conferences, as well as Carnegie Mellon, Columbia, Harvard, Stanford, UC Berkeley, UNC Chapel Hill, and UT Austin. We thank UT Austin and Columbia for research support. Please send all correspondence to and


We structurally estimate a model in which agents’ information processing biases can cause predictability in firms’ asset returns and investment inefficiencies. We generalize the neoclassical investment model by allowing for two biases—overconfidence and overextrapolation of trends—that distort agents’ expectations of firm productivity. Our model's predictions closely match empirical data on asset pricing and firm behavior. The estimated bias parameters are well identified and exhibit plausible magnitudes. Alternative models without either bias or with efficient investment fail to match observed return predictability and firm behavior. These results suggest that biases affect firm behavior, which in turn affects return anomalies.