Estimating the Value of Information

Abstract

We derive a general expression for the value of information to a price-taking investor in a dynamic environment and provide a framework for its estimation. We study the value of both private and public information and break it down into its instrumental and psychic parts. To illustrate, we estimate values of leading macroeconomic indicators (GDP, employment, etc.) and rank them. Using variations in option prices we find that a consumer-investor with conventional preference parameters would pay 3 to 5 basis points of her wealth for a one-time private peek into these indicators. Such signals provide substantial instrumental value but only a minor psychic value. Estimated values of information increase with the time discount factor, decrease with risk aversion, and increase with the elasticity of intertemporal substitution.

Keywords: value of information, informativeness, options prices, recovery

JEL Classification: G10, G12, G13, D80, D82, D83