Belief-free Equilibria in Repeated Games

J. Ely, J. HÖRNER, W. Olszewski


mars-mai 2005, vol. 73, n°2, pp.377-415

Départements : Finance

We introduce a class of strategies that generalizes examples constructed in two-player games under imperfect private monitoring. A sequential equilibrium is belief-free if, after every private history, each player's continuation strategy is optimal independently of his belief about his opponents' private histories. We provide a simple and sharp characterization of equilibrium payoffs using those strategies. While such strategies support a large set of payoffs, they are not rich enough to generate a folk theorem in most games besides the prisoner's dilemma, even when noise vanishes

Fiscal policy and economic growth: The role of financial intermediation


Review of International Economics

août 2005, vol. 13, n°3, pp.612-629

Départements : Finance

This paper analyzes the impact of public debt on financial efficiency in an overlapping-generations model. We argue that public debt may reduce intermediation costs by increasing the collateral of entrepreneurs. This effect is stronger, the stronger the non-Ricardian component of public debt, i.e. the more it is associated with intergenerational redistribution. This effect can be interpreted as future generations acting as a guarantee for the loans provided to the entrepreneurs of the current generation. Furthermore, multiple growth paths may arise as low taxes increase private collateral, which in turn boosts growth via financial efficiency, while higher growth allows to maintain the same debt/GDP ratio with reduced taxes

Incomplete-market dynamics in a neoclassical production economy

G. Angeletos, L. E. CALVET

Journal of Mathematical Economics

août 2005, vol. 41, n°4/5, pp.407-438

Départements : Finance, GREGHEC (CNRS)

We investigate a neoclassical economy with heterogeneous agents, convex technologies and idiosyncratic production risk. Combined with precautionary savings, investment risk generates rich effects that do not arise in the presence of pure endowment risk. Under a finite-horizon, multiple growth paths and endogenous fluctuations can exist even when agents are very patient. In infinitehorizon economies, multiple steady states may arise from the endogeneity of risk-taking and interest rates instead of the usual wealth effects. Depending on the economy's parameters, the local dynamics around a steady state are locally unique, totally unstable or locally undetermined, and the equilibrium path can be attracted to a limit cycle. The model generates closed-form expressions for the equilibrium dynamics and easily extends to a variety of environments, including heterogeneous capital types and multiple sectors

IPO Pricing in "Hot" Market Conditions: Who Leaves Money on the Table?


The Journal of Finance

février 2005, vol. 60, n°1, pp.487-521

Départements : Finance, GREGHEC (CNRS)

This paper explores the impact of investor sentiment on IPO pricing. Using a model in which the aftermarket price of IPO shares depends on the information about the intrinsic value of the company and investor sentiment, I show that IPOs can be overpriced and still exhibit positive initial return. A sample of recent French offerings with a fraction of the shares reserved for individual investors supports the predictions of the model. Individual investors' demand is positively related to market conditions. Moreover, large individual investors' demand leads to high IPO prices, large initial returns, and poor long-run performance

Judgemental Overconfidence, Self-Monitoring, and Trading Performance in an Experimental Financial Market


Review of Economic Studies

avril 2005, vol. 72, n°2, pp.287-312

Départements : Finance

We measure the degree of overconfidence in judgement (in the form of miscalibration, i.e. the tendency to overestimate the precision of one’s information) and self-monitoring (a form of attentiveness to social cues) of 245 participants and also observe their behaviour in an experimental financial market under asymmetric information. Miscalibrated traders, underestimating the conditional uncertainty about the asset value, are expected to be especially vulnerable to the winner’s curse. High self-monitors are expected to behave strategically and achieve superior results. Our empirical results show that miscalibration reduces and self-monitoring enhances trading performance. The effect of the psychological variables is strong for men but non-existent for women

Limit Order Book as a Market for Liquidity

T. FOUCAULT, O. Kadan, E. Kandel

Review of Financial Studies

hiver 2005, vol. 18, n°4, pp.1171-1217

Départements : Finance, GREGHEC (CNRS)

We develop a dynamic model of a limit order market populated by strategic liquidity traders of varying impatience. In equilibrium, patient traders tend to submit limit orders, whereas impatient traders submit market orders. Two variables are the key determinants of the limit order book dynamics in equilibrium: the proportion of patient traders and the order arrival rate. We offer several testable implications for various market quality measures such as spread, trading frequency, market resiliency, and time to execution for limit orders. Finally, we show the effect of imposing a minimal price variation on these measuresKeyWords Plus: BID-ASK SPREAD; EMPIRICAL-ANALYSIS; PROVISION; AUCTIONS; ANATOMY; PARIS; COSTS; DEPTH; MODEL; NYSE

Market microstructure: A survey of microfoundations, empirical results, and policy implications


International Journal of Financial Markets and Derivatives

mai 2005, vol. 8, n°2, pp.217-264

Départements : Finance

We survey the literature analyzing the price formation and trading process, and the consequences of market organization for price discovery and welfare. We offer a synthesis of the theoretical microfoundations and empirical approaches. Within this framework, we confront adverse selection, inventory costs and market power theories to the evidence on transactions costs and price impact. Building on these results, we proceed to an equilibrium analysis of policy issues. We review the extent to which market frictions can be mitigated by such features of market design as the degree of transparency, the use of call auctions, the pricing grid, and the regulation of competition between liquidity suppliers or exchanges

Relative Performance Objectives in Financial Markets


Journal of Financial Intermediation

juillet 2005, vol. 14, n°3, pp.351-375

Départements : Finance

Money management is an activity in which agents are often evaluated on the basis of their relative performance. In this article, I consider an economy in which (i) investors use a relative performance rule to evaluate mutual fund managers and allocate money into funds, and (ii) fund managers receive an asset-based compensation. Such fund-picking rules and compensation schemes generate relative performance objectives for fund managers. I study the consequences of this for the mutual fund industry in terms of the number of competing funds and trading strategies. I show that, with respect to absolute performance maximization, relative performance objectives increase the riskiness of investment strategies and reduces the number of low-quality funds. Overall, relative performance objectives increase investors' expected return

Repeated Dilution and Diffusely Held Debt


Journal of Business

mai 2005, vol. 78, n°3, pp.737-787

Départements : Finance, GREGHEC (CNRS)

Debt with many creditors is analyzed in a continuous-time pricing model of the levered firm with opportunistic renegotiation offers and default threats. Dispersed creditors accept coupon concessions only in exchange for guaranteed liquidation rights, like collateral. In the ex ante optimal debt contract, this security is provided by assets that gradually become worthless as the firm approaches the preferred liquidation conditions. Dispersed debt offers larger debt capacity than single-creditor debt and is preferable if the ex ante value of collateralizable assets is sufficiently low. Our model explains credit risk premia in excess of those supported by a single creditor with opportunistic renegotiation

Reputation-based pricing and price improvements in dealership markets

G. Desgranges, T. FOUCAULT

Journal of Economics and Business

2005, vol. 57, n°6, pp.493-527

Départements : Finance, GREGHEC (CNRS)

Dealers often offer price improvements, relative to posted quotes, to their clients. In this paper, we propose an explanation to this practice. We also analyze its effects on market liquidity and traders' welfare.Enduring relationships allow dealers to avoid informed trades by offering price improvements to clients who do not trade with the dealer when they are informed. A dealer never observes whether a specific client is informed or not but he can avoid informed orders by conditioning his offers on past trading profits. Cream-skimming of uninformed order-flow increases the risk of informed trading for dealers without a relationship. Thus, authorizing price improvements increases bid-ask spreads and impairs the welfare of investors without a relationship. It may even decrease the welfare of investors who develop a relationship as they sometimes need to trade at posted quotes. The model predicts a positive relationship between (a) the price improvements granted to a specific investor and past trading profits with this investor or (b) the frequency of price improvements and bid-ask spreadsJEL classification: L14; G14; D82Keywords: Market microstructure; Price improvements; Implicit contracts; Enduring relationships