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Non-linearities in Asset Prices and Infrequent Noise Trading

Author

Listed:
  • Pierluigi Balduzzi
  • Giuseppe Bertola
  • Silverio Foresi

Abstract

We model a two-asset economy populated by `speculators', who are always present in the market, and `noise traders', who infrequently reallocate their portfolios in a discrete fashion. Noise traders' markets orders are filled at prices which support the speculators' equilibrium consumption path, which in turn depends on the proportion of stocks and bonds in their portfolio and hence on the size and likeligood of noise trade events. Expectations of future trade introduce an option-like component in equilibrium asset prices. We propose explicit solutions and numerical examples for the case of CRRA preferences.

Suggested Citation

  • Pierluigi Balduzzi & Giuseppe Bertola & Silverio Foresi, 1993. "Non-linearities in Asset Prices and Infrequent Noise Trading," CEPR Financial Markets Paper 0033, European Science Foundation Network in Financial Markets, c/o C.E.P.R, 33 Great Sutton Street, London EC1V 0DX..
    • Handle: RePEc:cpr:ceprfm:0033
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    Keywords

    Heterogeneous Agents; Bubbles;

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