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Have Financial Markets Become More Informative?

  • Jennie Bai

    (Federal Reserve Bank of New York)

Registered author(s):

    The finance industry has grown. Financial markets have become more liquid. But have prices become more informative? We use stock and bond prices to forecast earnings and find that the information content of market prices has not increased since 1960. The magnitude of earnings surprises has increased. A baseline model predicts that as the efficiency of information production increases, prices become more disperse and covary more strongly with future earnings. The predictable component of earnings improves capital allocation and serves as a direct measure of welfare. We nd that this measure has remained stable. A model with endogenous information acquisition predicts that an increase in fundamental uncertainty also increases informativeness as the incentive to produce information grows. We find that uncertainty has indeed increased outside of the S&P 500, but price informativeness has not. Prices have become stronger predictors of R&D investment.

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    Paper provided by Society for Economic Dynamics in its series 2012 Meeting Papers with number 1193.

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    Date of creation: 2012
    Date of revision:
    Handle: RePEc:red:sed012:1193
    Contact details of provider: Postal: Society for Economic Dynamics Marina Azzimonti Department of Economics Stonybrook University 10 Nicolls Road Stonybrook NY 11790 USA
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    9. Simon Gilchrist & Egon Zakrajsek, 2007. "Investment and the Cost of Capital: New Evidence from the Corporate Bond Market," NBER Working Papers 13174, National Bureau of Economic Research, Inc.
    10. Holmstrom, Bengt & Tirole, Jean, 1993. "Market Liquidity and Performance Monitoring," Journal of Political Economy, University of Chicago Press, vol. 101(4), pages 678-709, August.
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