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Financial markets where traders neglect the informational content of prices

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  • Eyster, Erik
  • Rabin, Matthew
  • Vayanos, Dimitri

Abstract

We present a model of a financial market where some traders are "cursed" when investing in a risky asset, failing to fully appreciate what prices convey about others' private information. Markets comprising cursed traders generate more trade than those comprising rationals; mixed markets can generate even more trade because rationals exploit return predictability caused by cursed. Per-trader volume in cursed markets increases with market size; volume may instead disappear when traders infer others' information from prices but dismiss it as noisier than their own. Public-information revelation raises rational and"dismissive" volume, but lowers cursed volume given moderate non-informational trading motives.

Suggested Citation

  • Eyster, Erik & Rabin, Matthew & Vayanos, Dimitri, 2017. "Financial markets where traders neglect the informational content of prices," LSE Research Online Documents on Economics 118956, London School of Economics and Political Science, LSE Library.
    • Handle: RePEc:ehl:lserod:118956
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    References listed on IDEAS

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    More about this item

    JEL classification:

    • G00 - Financial Economics - - General - - - General
    • G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions
    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • D82 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Asymmetric and Private Information; Mechanism Design

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