Maenhout, Pascal J.Vedolin, AndreaXing, Hao2022-02-082022-02-082021-03-05Maenhout, Pascal J. and Vedolin, Andrea and Xing, Hao, Robustness and Dynamic Sentiment (March 5, 2021). http://dx.doi.org/10.2139/ssrn.3798445https://hdl.handle.net/2144/43813Errors in survey expectations display waves of pessimism and optimism and significant sluggishness. This paper develops a novel theoretical framework of time-varying beliefs capturing these empirical characteristics. The dynamic beliefs arise endogenously due to agents’ attitude toward alternative models. Decision-maker’s distorted beliefs generate countercyclical risk aversion, procyclical portfolio weights, countercyclical equilibrium asset returns, and excess volatility. A calibrated version of our model is shown to match salient features in equity markets.Errors in survey expectations display waves of pessimism and optimism and significant sluggishness. This paper develops a novel theoretical framework of time-varying beliefs capturing these empirical facts. In our model, the dynamic beliefs arise endogenously due to agents’ attitude toward alternative models. Decision-maker’s distorted beliefs generate countercyclical risk aversion, procyclical portfolio weights, countercyclical equilibrium asset returns, and excess volatility. A calibrated version of our model is shown to match salient features in equity markets.en-USArticle623415