Dynamic Trading, Imperfect Competition and Forward Contracts
41 Pages Posted: 2 Dec 2019
Date Written: November 15, 2019
I provide a model in which forward-like contracts are traded in equilibrium because of imperfect competition. Risk averse traders have successive opportunities to trade a risky asset: with imperfect competition sellers slice their order in small pieces to realize a higher average selling price, and similarly for buyers who want a low average purchase price. If exogenous customers are expected to trade later an unknown quantity independent from the asset value, this creates uncertainty for future transaction prices: buyers and sellers are sensitive to this risk in opposite ways, which creates gains from trading this risk. Abstract contracts indexed on the customer's quantity traded, resembling forwards or futures because equilibrium is linear in this quantity, are traded in imperfectly competitive equilibrium. Sellers keep the asset for longer, and sell forwards, implying a large balance sheet.
Keywords: Dynamic trading, Imperfect Competition, Derivatives
JEL Classification: G12, G13
Suggested Citation: Suggested Citation