Multi-Asset Noisy Rational Expectations Equilibrium with Contingent Claims
London School of Economics and Political Science
London School of Economics - Department of Finance
Konstantinos E. Zachariadis
London School of Economics
We consider a noisy rational expectations equilibrium in a multi-asset economy populated by informed and uninformed investors, and noise traders. Informed investors privately observe an aggregate risk factor affecting the probabilities of different states of the economy. Uninformed investors attempt to extract that information from asset prices, but full revelation is prevented by noise traders. We relax the usual assumption of normally distributed asset payoffs and allow for assets with more general payoff distributions, including contingent claims, such as options and other derivatives. We show that assets reveal information about the risk factor only if they help span the exposure of probabilities of states to the risk factor. When the market is complete, we provide equilibrium asset prices and optimal portfolios of investors in closed form. In incomplete markets, we derive prices and portfolios in terms of easily computable inverse functions.
Number of Pages in PDF File: 45
Keywords: asymmetric information, rational expectations, learning from prices, contingent claims, derivative securities
JEL Classification: D82, G12, G14working papers series
Date posted: June 8, 2014 ; Last revised: June 29, 2014
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