Short-Term Investment and Equilibrium Multiplicity

Abstract

I study the effects of the heterogeneity of traders' horizons in a 2-period NREE model where all traders are risk averse. Owing to risk premia, short termism generates multiple equilibria. In particular two distinct patterns arise. Along the "low trading intensity equilibrium," short termists anticipate a thinner second period market and, owing to risk aversion, scale back their trades. This reduces both risk sharing and information impounding into prices, enforcing a high returns' volatility-low price informativeness equilibrium. Along the "high trading intensity equilibrium," the opposite happens and a low volatility-high price informativeness equilibrium arises. Thus, in the presence of short-term behavior and traders' risk aversion, periods of high volatility are a signal of poor price informativeness.

Note: Previously titled: Inventory Effects and Trading Horizons

Keywords: Financial Economics, Information and Market Efficiency, Multiple Equilibria

JEL Classification: G100, G120, G140