Modulated Information Flows in Financial Markets

27 Pages Posted: 25 Aug 2017 Last revised: 14 May 2020

See all articles by Edward Hoyle

Edward Hoyle

Man AHL

Andrea Macrina

University College London; University of Cape Town (UCT)

Levent Mengütürk

University College London

Date Written: December 12, 2018

Abstract

We model continuous-time information flows generated by a number of information sources that switch on and off at random times. By modulating a multi-dimensional Lévy random bridge over a random point field, our framework relates the discovery of relevant new information sources to jumps in conditional expectation martingales. In the canonical Brownian random bridge case, we show that the underlying measure-valued process follows jump-diffusion dynamics, where the jumps are governed by information switches. The dynamic representation gives rise to a set of stochastically-linked Brownian motions on random time intervals that capture evolving information states, as well as to a state-dependent stochastic volatility evolution with jumps. The nature of information flows usually exhibits complex behaviour, however, we maintain analytic tractability by introducing what we term the effective and complementary information processes, which dynamically incorporate active and inactive information, respectively. As an application, we price a financial vanilla option, which we prove is expressed by a weighted sum of option values based on the possible state configurations at expiry. This result may be viewed as an information-based analogue of Merton's option price, but where jump-diffusion arises endogenously. The proposed information flows also lend themselves to the quantification of asymmetric informational advantage among competitive agents, a feature we analyse by notions of information geometry.

Keywords: Filtration models, jump-diffusion dynamics, point processes, stochastic volatility, information-based modelling, asymmetric information.

Suggested Citation

Hoyle, Edward and Macrina, Andrea and Mengütürk, Levent, Modulated Information Flows in Financial Markets (December 12, 2018). Available at SSRN: https://ssrn.com/abstract=3024535 or http://dx.doi.org/10.2139/ssrn.3024535

Edward Hoyle

Man AHL ( email )

Riverbank House
2 Swan Lane
London, EC4R 3AD
United Kingdom

Andrea Macrina (Contact Author)

University College London ( email )

Gower Street
London, WC1E 6BT
United Kingdom

University of Cape Town (UCT) ( email )

Private Bag X3
Rondebosch, Western Cape 7701
South Africa

Levent Mengütürk

University College London ( email )

Gower Street
London, WC1E 6BT
United Kingdom

Do you have a job opening that you would like to promote on SSRN?

Paper statistics

Downloads
50
Abstract Views
399
PlumX Metrics