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Differential information and excessive volatility in financial markets

  • Torben M. Andersen

    (University of Aarhus, Denmark)

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    It is analysed whether risk averse agents possessing different information have an incentive to trade in a zero-sum market. The key to generate trading in a zero-sum speculative market is whether expectations are »homogenized» through the trading process. If not, trading will take place and all agents expect to be able to exploit private information not fully revealed by market prices to make a speculative profit. The existence of a rational expectations equilibrium with heterogenous expectations is proven to exist, and shown to imply excessive volatility ofprices and trading volumes.

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    Article provided by Finnish Economic Association in its journal Finnish Economic Papers.

    Volume (Year): 5 (1992)
    Issue (Month): 1 (Spring)
    Pages: 3-11

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    Handle: RePEc:fep:journl:v:5:y:1992:i:1:p:3-11
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    1. Futia, Carl A, 1981. "Rational Expectations in Stationary Linear Models," Econometrica, Econometric Society, vol. 49(1), pages 171-92, January.
    2. Grossman, Sanford J & Stiglitz, Joseph E, 1976. "Information and Competitive Price Systems," American Economic Review, American Economic Association, vol. 66(2), pages 246-53, May.
    3. Bray, Margaret, 1985. "Rational Expectations, Information and Asset Markets: An Introduction," Oxford Economic Papers, Oxford University Press, vol. 37(2), pages 161-95, June.
    4. De Long, J Bradford & Andrei Shleifer & Lawrence H. Summers & Robert J. Waldmann, 1990. "Noise Trader Risk in Financial Markets," Journal of Political Economy, University of Chicago Press, vol. 98(4), pages 703-38, August.
    5. Hirshleifer, Jack, 1975. "Speculation and Equilibrium: Information, Risk, and Markets," The Quarterly Journal of Economics, MIT Press, vol. 89(4), pages 519-42, November.
    6. Black, Jane & Tonks, Ian, 1990. "Asset Price Variability under Asymmetric Information," Economic Journal, Royal Economic Society, vol. 100(400), pages 67-77, Supplemen.
    7. Friedman, Daniel & Aoki, Masanao, 1986. "Asset price bubbles from poorly aggregated information : A parametric example," Economics Letters, Elsevier, vol. 21(1), pages 49-52.
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