Belief-free price formation |
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Authors: | Johannes Hörner Stefano Lovo Tristan Tomala |
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Institution: | 1. Yale University, 30 Hillhouse Ave., New Haven, CT 06520, USA;2. HEC Paris, 1 rue de la Libération, Jouy-en-Josas 78351, France;3. GREGHEC, 1 rue de la Libération, Jouy-en-Josas 78351, France;4. Toulouse School of Economics is, 21 Allée de Brienne, 31015 Toulouse, France |
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Abstract: | We analyze security price formation in a dynamic setting in which long-lived dealers repeatedly compete for the opportunity to trade with short-lived retail traders. We characterize equilibria in which dealers’ pricing strategies are optimal irrespective of the private information that each dealer may possess. Thus, our model’s predictions are robust to different specifications of the dealers’ information structure. These equilibria reconcile, in a unified and parsimonious framework, price dynamics that are reminiscent of well-known stylized facts: excess price volatility, price to trading flow correlation, stochastic volatility and inventory-related trading. |
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Keywords: | Financial market microstructure Informed dealers Price volatility Belief-free equilibria G1 G12 C72 C73 |
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