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Securitization and Real Investment in Incomplete Markets

50 Pages Posted: 8 Sep 2009  

Vishal Gaur

Cornell University - Samuel Curtis Johnson Graduate School of Management

Sridhar Seshadri

Indian School of Business

Marti G. Subrahmanyam

New York University - Stern School of Business

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Date Written: August 27, 2009

Abstract

We study the impact of financial innovations on real investment decisions within the framework of an incomplete market economy comprised of firms, investors, and an intermediary. The firms face unique investment opportunities that arise in their business operations and can be undertaken at given reservation prices. The cash flows thus generated are not spanned by the securities traded in the financial market, and cannot be valued uniquely. The intermediary purchases claims against these cash flows, pools them together, and sells tranches of primary or secondary securities to the investors. We derive necessary and sufficient conditions under which projects are undertaken due to the intermediary's actions, and firms are amenable to the pool proposed by the intermediary, compared to the no-investment option or the option of forming alternative pools. We also determine the structure of the new securities created by the intermediary and identify how it exploits the arbitrage opportunities available in the market. Our results have implications for valuation of real investments, synergies among them, and their financing mechanisms. We illustrate these implications using an example of inventory decisions under random demand.

Suggested Citation

Gaur, Vishal and Seshadri, Sridhar and Subrahmanyam, Marti G., Securitization and Real Investment in Incomplete Markets (August 27, 2009). NYU Working Paper No. FIN-09-010. Available at SSRN: https://ssrn.com/abstract=1469129

Vishal Gaur

Cornell University - Samuel Curtis Johnson Graduate School of Management ( email )

Ithaca, NY 14853
United States

HOME PAGE: http://www.johnson.cornell.edu/faculty/profiles/Gaur/

Sridhar Seshadri

Indian School of Business ( email )

Hyderabad, Gachibowli 500 019
India

Marti G. Subrahmanyam (Contact Author)

New York University - Stern School of Business ( email )

Stern School of Business,
44 West 4th Street, Suite 9-68
New York, NY 10012-1126
United States
212-998-0348 (Phone)
212-995-4233 (Fax)

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