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Arbitrage, bubbles and valuation

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  • Jan Werner

Abstract

The standard present value rule of asset pricing may fail in financial markets when infinitely many assets can be traded. The author provides an example of asset payoffs and prices such that prices are arbitrage-free and could be equilibrium prices in frictionless markets. Using valuation theory methods, the author shows that asset prices can be meaningfully decomposed into a fundamental value and a pricing bubble. The fundamental value obeys the present value rule. Copyright 1997 by Economics Department of the University of Pennsylvania and the Osaka University Institute of Social and Economic Research Association.
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Suggested Citation

  • Jan Werner, 1995. "Arbitrage, bubbles and valuation," Economics Working Papers 121, Department of Economics and Business, Universitat Pompeu Fabra.
    • Handle: RePEc:upf:upfgen:121
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    Cited by:

    1. Gilles, Christian & LeRoy, Stephen F., 1998. "Arbitrage, martingales and bubbles," Economics Letters, Elsevier, vol. 60(3), pages 357-362, September.
    2. Araujo, Aloisio & Novinski, Rodrigo & Páscoa, Mário R., 2011. "General equilibrium, wariness and efficient bubbles," Journal of Economic Theory, Elsevier, vol. 146(3), pages 785-811, May.
    3. Kevin X.D. Huang & Jan Werner, 1997. "Valuation bubbles and sequential bubbles," Economics Working Papers 303, Department of Economics and Business, Universitat Pompeu Fabra, revised Dec 1997.
    4. Werner, Jan, 2014. "Rational asset pricing bubbles and debt constraints," Journal of Mathematical Economics, Elsevier, vol. 53(C), pages 145-152.

    More about this item

    JEL classification:

    • G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions
    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates

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