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How Equilibrium Prices Reveal Information in Time Series Models with Disparately Informed, Competitive Traders

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  • Todd B. Walker

    (University of Iowa)

Abstract

Accommodating asymmetric information in a dynamic asset pricing model is technically challenging due to the problems associated with higher-order expectations. That is, rational investors are forced into a situation where they must forecast the forecasts of other agents (i.e., form higher-order expectations). In a dynamic setting, this problem telescopes into the infinite future and the dimension of the relevant state space approaches infinity. By employing the frequency domain approach of Whiteman (1983) and Kasa (2000), this paper demonstrates how information structures previously believed to lead to disparate expectations in equilibrium (e.g., Singleton (1987)) converge to a symmetric equilibrium. The “revealing” aspect of the price process lies in the invertibility of the observed state space, which makes it possible for agents to infer the economically fundamental shocks, thus eliminating the need to forecast the forecasts of others.

Suggested Citation

  • Todd B. Walker, 2005. "How Equilibrium Prices Reveal Information in Time Series Models with Disparately Informed, Competitive Traders," Finance 0509021, EconWPA.
  • Handle: RePEc:wpa:wuwpfi:0509021
    Note: Type of Document - pdf; pages: 33
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    References listed on IDEAS

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    Cited by:

    1. Philippe Bacchetta & Eric Van Wincoop, 2008. "Higher Order Expectations in Asset Pricing," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 40(5), pages 837-866, August.
    2. Pengfei Wang & Yi Wen, 2007. "Incomplete information and self-fulfilling prophecies," Working Papers 2007-033, Federal Reserve Bank of St. Louis.

    More about this item

    Keywords

    Asymmetric Information; Asset Pricing; Frequency Domain;

    JEL classification:

    • G - Financial Economics

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