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Transaction Costs and Asset Prices: A Dynamic Equilibrium Model

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  • Vayanos, Dimitri

Abstract

In this article we study the effects of transaction costs on asset prices. We assume an overlapping generations economy with a riskless, liquid bond, and many risky stocks carrying proportional transaction costs. We obtain stock prices and turnover in closed form. Surprisingly, a stock's price may increase in transaction costs, and a more frequently traded stock may be less adversely affected by an increase in transaction costs. Calculations based on the "marginal" investor overestimate the effects of transaction costs. For realistic parameter values, transaction costs have very small effects on stock prices but large effects on turnover. Article published by Oxford University Press on behalf of the Society for Financial Studies in its journal, The Review of Financial Studies.

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Bibliographic Info

Article provided by Society for Financial Studies in its journal Review of Financial Studies.

Volume (Year): 11 (1998)
Issue (Month): 1 ()
Pages: 1-58

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Handle: RePEc:oup:rfinst:v:11:y:1998:i:1:p:1-58

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  1. John Heaton & Deborah Lucas, 1993. "Evaluating the Effects of Incomplete Markets on Risk Sharing and Asset Pricing," NBER Working Papers 4249, National Bureau of Economic Research, Inc.
  2. Amihud, Yakov & Mendelson, Haim, 1986. "Asset pricing and the bid-ask spread," Journal of Financial Economics, Elsevier, vol. 17(2), pages 223-249, December.
  3. Mehra, Rajnish & Prescott, Edward C., 1985. "The equity premium: A puzzle," Journal of Monetary Economics, Elsevier, vol. 15(2), pages 145-161, March.
  4. Duffie, Darrell & Sun, Tong-sheng, 1990. "Transactions costs and portfolio choice in a discrete-continuous-time setting," Journal of Economic Dynamics and Control, Elsevier, vol. 14(1), pages 35-51, February.
  5. Reinganum, Marc R., 1981. "Misspecification of capital asset pricing : Empirical anomalies based on earnings' yields and market values," Journal of Financial Economics, Elsevier, vol. 9(1), pages 19-46, March.
  6. Stoll, Hans R. & Whaley, Robert E., 1983. "Transaction costs and the small firm effect," Journal of Financial Economics, Elsevier, vol. 12(1), pages 57-79, June.
  7. Dumas, Bernard & Luciano, Elisa, 1991. " An Exact Solution to a Dynamic Portfolio Choice Problem under Transactions Costs," Journal of Finance, American Finance Association, vol. 46(2), pages 577-95, June.
  8. Schultz, Paul, 1983. "Transaction costs and the small firm effect : A comment," Journal of Financial Economics, Elsevier, vol. 12(1), pages 81-88, June.
  9. Constantinides, George M, 1986. "Capital Market Equilibrium with Transaction Costs," Journal of Political Economy, University of Chicago Press, vol. 94(4), pages 842-62, August.
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