Pricing Two Trees:When Trees and Investors are Heterogeneous

We consider an exchange economy with two heterogeneous stocks and twogroups of investors. Dividends follow diusion processes, with a constant expectedgrowth rate for one stock and a stochastic drift for the other. 'Rationalinvestors' can either observe this stochastic drift without error or areat least able to use a noisy signal about it, while 'irrational investors' basetheir inference only on dividend observations. In an economy with homogeneousinvestors, uncertainty about the drift increases the volatilities of bothstocks and the expected return of the smaller stock. Dierences between thetwo types of stocks are mainly caused by learning, which increases both thevolatility and the expected return of the stock with the stochastic drift. Whenboth groups of investor are present, dierences in portfolio holdings and thustrading mainly depend on dierences in beliefs. In the long run, the irrationalinvestors will be driven out of the market, and for realistic parameterscenarios, they can loose on average half of their wealth within twenty years.