Information Design in Financial Markets

65 Pages Posted: 21 Oct 2020 Last revised: 12 Mar 2021

See all articles by Davide Cianciaruso

Davide Cianciaruso

HEC Paris - Accounting and Management Control Department

Ivan Marinovic

Graduate School of Business, Stanford University

Kevin Smith

Stanford University Graduate School of Business

Date Written: March 12, 2021

Abstract

We study the optimal disclosure policy of a firm that wishes to maximize its expected stock price in the classic setting in which its stock is traded by risk-averse investors and noise traders. The optimal policy is imprecise and leads to skewed posterior beliefs. This policy subjects short positions to tail risk, causing investors to demand a large increase in price to absorb noise-trader purchases and leading to overvaluation. Despite providing purely firm-specific information, this policy impacts the firm's expected returns. We further show the firm can inflate its price even when restricted to simple policies that withhold news lying above or below a threshold.

Keywords: Short-selling, Disclosure, Bayesian Persuasion, Downside Risk, Trading

JEL Classification: D72, D82, D83, G20

Suggested Citation

Cianciaruso, Davide and Marinovic, Ivan and Smith, Kevin, Information Design in Financial Markets (March 12, 2021). Available at SSRN: https://ssrn.com/abstract=3686089 or http://dx.doi.org/10.2139/ssrn.3686089

Davide Cianciaruso

HEC Paris - Accounting and Management Control Department ( email )

Jouy-en-Josas
France

Ivan Marinovic

Graduate School of Business, Stanford University ( email )

655 Knight Way
Stanford, CA 94305-5015
United States

Kevin Smith (Contact Author)

Stanford University Graduate School of Business ( email )

655 Knight Way
Stanford, CA 94305-5015
United States

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