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Efficient Trading Strategies in the Presence of Market Frictions

  • Kallal, Hedi
  • Jouini, Elyès
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    We provide a price characterization of efficient contingent claims - that is, chosen by at least a rational agent - in multiperiod economies with market frictions. Frictions include market incompleteness, transaction costs, short-selling, and borrowing costs. We characterize the inefficiency cost of a trading strategy - its required investment minus the largest amount necessary to obtain the same utility level - and we propose a measure of portfolio performance. We show that arbitrage bounds cannot be tightened based on efficiency without restricting preferences or endowments. We observe common investment strategies becoming inefficient with market frictions and others rationalized by them.

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    File URL: http://basepub.dauphine.fr/xmlui/bitstream/123456789/4721/1/SSRN-id1297127.pdf
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    Paper provided by Paris Dauphine University in its series Economics Papers from University Paris Dauphine with number 123456789/4721.

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    Date of creation: 2001
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    Publication status: Published in The Review of Financial Studies, 2001, Vol. 14, no. 2. pp. 343-369.Length: 26 pages
    Handle: RePEc:dau:papers:123456789/4721
    Contact details of provider: Web page: http://www.dauphine.fr/en/welcome.html

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    1. Bernard Bensaid & Jean-Philippe Lesne & Henri Pagès & José Scheinkman, 1992. "Derivative Asset Pricing With Transaction Costs," Mathematical Finance, Wiley Blackwell, vol. 2(2), pages 63-86.
    2. 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.
    3. Dybvig, Philip H & Ross, Stephen A, 1986. " Tax Clienteles and Asset Pricing," Journal of Finance, American Finance Association, vol. 41(3), pages 751-62, July.
    4. Amihud, Yakov & Mendelson, Haim, 1991. " Liquidity, Maturity, and the Yields on U.S. Treasury Securities," Journal of Finance, American Finance Association, vol. 46(4), pages 1411-25, September.
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