Abstract: The stock market participation puzzle is the robust empirical finding that substantially fewer people participate in the stock market than predicted by standard models. Recent evidence suggests subjective returns play a key role in stock market participation. Furthermore, there is strong evidence that stock market experiences, i.e. realized returns, impact subjective returns. I bring a model into the laboratory and find that learning-driven subjective returns can explain limited participation. Stock market participation is increasing in both subjective returns and past realized returns. I find direct evidence that “learning from experience" generates heterogeneity in subjective returns, where subjects who experience low returns have lower subjective returns than subjects who experience high returns. In particular, subjects over-weigh price trends when they experience high returns and under-weigh it when they experience low returns.
Abstract: A simple asset pricing model with endogenous participation can match key volatility moments when agents adaptively learn about both the risk and the return of stocks. With learning about risk, excess volatility of prices is driven by fluctuations in the participation rate that arise because agents' risk estimates vary with prices. We find that learning about risk is quantitatively more important than learning about returns. A calibrated model can jointly match the mean participation rate, the volatility of participation rates, and explain 25% of the excess volatility of stock prices observed in U.S. data.
Learning, Hypothesis Testing, and Restricted Perceptions Equilibria in progress