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23
Is information risk a determinant of asset returns
 Journal of Finance
, 2002
"... We investigate the role of informationbased trading in affecting asset returns. We show in a rational expectation example how private information affects equilibrium asset returns. Using a market microstructure model, we derive a measure of the probability of informationbased trading, and we estim ..."
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Cited by 191 (8 self)
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We investigate the role of informationbased trading in affecting asset returns. We show in a rational expectation example how private information affects equilibrium asset returns. Using a market microstructure model, we derive a measure of the probability of informationbased trading, and we estimate this measure using data for individual NYSElisted stocks for 1983 to 1998. We then incorporate our estimates into a Fama and French ~1992! assetpricing framework. Our main result is that information does affect asset prices. A difference of 10 percentage points in the probability of informationbased trading between two stocks leads to a difference in their expected returns of 2.5 percent per year. ASSET PRICING IS FUNDAMENTAL to our understanding of the wealth dynamics of an economy. This central importance has resulted in an extensive literature on asset pricing, much of it focusing on the economic factors that influence asset prices. Despite the fact that virtually all assets trade in markets, one set of factors not typically considered in assetpricing models are the features
Liquidity and Expected Returns: Lessons from Emerging Markets
, 2006
"... Given the crosssectional and temporal variation in their liquidity, emerging equity markets provide an ideal setting to examine the impact of liquidity on expected returns. Our main liquidity measure is a transformation of the proportion of zero daily firm returns, averaged over the month. We find ..."
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Cited by 79 (8 self)
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Given the crosssectional and temporal variation in their liquidity, emerging equity markets provide an ideal setting to examine the impact of liquidity on expected returns. Our main liquidity measure is a transformation of the proportion of zero daily firm returns, averaged over the month. We find that it significantly predicts future returns, whereas alternative measures such as turnover do not. Consistent with liquidity being a priced factor, unexpected liquidity shocks are positively correlated with contemporaneous return shocks and negatively correlated with shocks to the dividend yield. We consider a simple asset pricing model with liquidity and the market portfolio as risk factors and transaction costs that are proportional to liquidity. The model differentiates between integrated and segmented countries and time periods. Our results suggest that local market liquidity is an important driver of expected returns in emerging markets, and that the liberalization process has not fully eliminated its impact.
Systematic Risk, Total Risk and Size as Determinants of Stock Market Returns
 Joumal of Banking and Finance
, 1986
"... This paper studies the historical relationship for the period 19621981 between stock market returns and the following variables: beta, residual standard deviation (or total variance), and size. We conclude that neither the traditional measure of risk (beta) nor the alternative risk measures (varian ..."
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Cited by 20 (0 self)
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This paper studies the historical relationship for the period 19621981 between stock market returns and the following variables: beta, residual standard deviation (or total variance), and size. We conclude that neither the traditional measure of risk (beta) nor the alternative risk measures (variance or residual standard deviation) can explain the crosssectional variation in returns; only size seems to matter. When January returns are eliminated, even the size variable loses its statistical significance.
Liquidity and Price Discovery
, 2003
"... This paper examines the implications of market microstructure for asset pricing. I argue that asset pricing ignores the central fact that asset prices evolve in markets. Markets provide liquidity and price discovery, and I argue that asset pricing models need to be recast in broader terms to incorpo ..."
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Cited by 18 (0 self)
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This paper examines the implications of market microstructure for asset pricing. I argue that asset pricing ignores the central fact that asset prices evolve in markets. Markets provide liquidity and price discovery, and I argue that asset pricing models need to be recast in broader terms to incorporate the transactions costs of liquidity and the risks of price discovery. I argue that symmetric informationbased asset pricing models do not work because they assume that the underlying problems of liquidity and price discovery have been solved. I develop an asymmetric information assetpricing model that incorporates these effects. 2 This paper examines the implications of market microstructure for asset pricing. Both research areas focus on the behavior and evolution of asset prices, but the microstructure implications have been largely missing from the asset pricing literature. Such an omission is unimportant if asset pricing models work well in the sense of explaining the observed behavior of asset prices, but this is not the case. The proliferation of anomalies, momentum, and the changing cast of factors needed to explain even partially the behavior of asset prices, all suggest that success is not yet within our grasp.
Equilibrium Asset Pricing And Portfolio Choice Under Asymmetric Information, working paper
, 2007
"... Information. We are grateful for insightful comments to the Editor, David Levine, and several referees and thank participants at seminars at American University, Carnegie Mellon University, ..."
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Cited by 15 (0 self)
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Information. We are grateful for insightful comments to the Editor, David Levine, and several referees and thank participants at seminars at American University, Carnegie Mellon University,
SURVEY EVIDENCE ON THE 'RATIONALITY' OF INTEREST RATE EXPECTATIONS
, 1980
"... An analysis of predictions of six interest rates over 3monthsahead and 6monthsahead horizons, surveyed regularly over eight years, casts doubt on the hypothesis that market participants ' expectations are 'rational' in Muth's sense. Tests show that the survey respondents did ..."
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Cited by 14 (0 self)
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An analysis of predictions of six interest rates over 3monthsahead and 6monthsahead horizons, surveyed regularly over eight years, casts doubt on the hypothesis that market participants ' expectations are 'rational' in Muth's sense. Tests show that the survey respondents did not make unbiased predictions, that (especially for the 6monthsahead predictions) they did not efficiently exploit the information contained in past interest rate movements, that their respective 3monthsahead and 6monthsahead predictions failed to be consistent in the sense required for 'rationality', and that (for longterm but not shortterm interest rates) their predictions failed to exploit efficiently the information contained in common macroeconomic and macropolicy variables other than the money stock.
Arbitrage, rationality, and equilibrium
 Theory and Decision
, 1991
"... ABSTRACT. Noarbitrage is the fundamental principle of economic rationality which unifies normative decision theory, game theory, and market theory. In economic environments where money is available as a medium of measurement and exchange, noarbitrage is synonymous with subjective expected utility ..."
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Cited by 7 (0 self)
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ABSTRACT. Noarbitrage is the fundamental principle of economic rationality which unifies normative decision theory, game theory, and market theory. In economic environments where money is available as a medium of measurement and exchange, noarbitrage is synonymous with subjective expected utility maximization in personal decisions, competitive equilibria in capital markets and exchange economies, and correlated equilibria in noncooperative games. The arbitrage principle directly characterizes rationality at the market level; the appearance of deliberate optimization by individual agents is a consequence of their adaptation to the market. Concepts of equilibrium behavior in games and markets can thus be reconciled with the ideas that individual rationality is bounded, that agents use evolutionarilyshaped decision rules rather than numerical optimization algorithms, and that personal probabilities and utilities are inseparable and to some extent indeterminate. Riskneutral probability distributions, interpretable as products of probabilities and marginal utilities, play a central role as observable quantities in economic systems.
Speculation and Risk Sharing with New Financial Assets
, 2011
"... While the traditional view of financial innovation emphasizes the risk sharing role of new financial assets, belief disagreements about these assets naturally lead to speculation, which represents a powerful economic force in the opposite direction. This paper investigates the effect of financial in ..."
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Cited by 6 (3 self)
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While the traditional view of financial innovation emphasizes the risk sharing role of new financial assets, belief disagreements about these assets naturally lead to speculation, which represents a powerful economic force in the opposite direction. This paper investigates the effect of financial innovation on portfolio risks in an economy when both the risk sharing and the speculation forces are present. I consider this question in a standard meanvariance framework. Financial assets provide hedging services but they are also subject to speculation because traders do not necessarily agree about their payoffs. I dfi…ne the average variance of traders’ net worths as a measure of portfolio risks for this economy, and I decompose it into two components: the uninsurable variance, defied as the average variance that would obtain if there were no belief disagreements, and the speculative variance, defined as the residual variance that results from speculative trades based on belief disagreements. Financial innovation always decreases the uninsurable variance because new assets increase the possibilities for risk sharing. My main result shows that financial innovation also always increases the speculative variance. This is true even if traders completely agree about the payoffs of new assets. The intuition behind this result is the hedgemore/betmore effect: Traders use new assets to hedge their bets on existing assets, which in turn
Security Design and Information Aggregation in Markets ∗
"... It has been wellrecognized that markets can aggregate lessthanperfect information across market participants. With two differently designed securities, this work examines the impact of security design on the information aggregation ability of markets in laboratory experiments. Results show that m ..."
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Cited by 1 (0 self)
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It has been wellrecognized that markets can aggregate lessthanperfect information across market participants. With two differently designed securities, this work examines the impact of security design on the information aggregation ability of markets in laboratory experiments. Results show that markets with one security aggregate information significantly better than markets with the other security, implying that information aggregation ability of markets is affected by the security design. Behavior of individual participants is then investigated to understand the observed market behavior. JEL Classification: C92; C91; D80