Learning from prices: information aggregation and accumulation in an asset market
- PDF / 460,188 Bytes
- 33 Pages / 439.37 x 666.142 pts Page_size
- 6 Downloads / 187 Views
Learning from prices: information aggregation and accumulation in an asset market Michele Berardi1 Received: 23 July 2020 / Accepted: 23 October 2020 © The Author(s) 2020
Abstract Can prices convey information about the fundamental value of an asset? This paper considers this problem in relation to the dynamic properties of the fundamental (whether it is constant or time-varying) and the structure of information available to agents. Risk-averse traders receive two potential signals each period: one exogenous and private and the other, prices, endogenous and public. Prices aggregate private information but include aggregate noise. Information can accumulate over time both through endogenous and exogenous signals. With a constant fundamental, the precision of both private and public cumulative information increases over time but agents put progressively more weight on the endogenous signals, asymptotically disregarding private ones. If the fundamental is time-varying, the use of past private signals complicates the role of prices as a source of information, since it introduces endogenous serial correlation in the price signal and cross-correlation between it and innovations in the fundamental. A modified version of the Kalman filter can still be used to extract information from prices and results show that the precision of the endogenous signals converges to a constant, with both private and public information used at all times. Keywords Uncertainty · Information · Bayesian learning · Asset prices
1 Introduction The aim of this paper is to analyse the ability of prices to convey information about the fundamental value of an asset, in particular in relation to the nature of the fundamental, whether it is constant or time-varying. To this end, I consider a multi-period model with diffuse information, where agents receive sequential signals and use them optimally (in a Bayesian sense) to estimate the fundamental value of an asset. The nature of the fundamental and the structure of information available, which is endogenous in
B 1
Michele Berardi [email protected] The University of Manchester, Manchester, United Kingdom
123
M. Berardi
the case of prices, determine the optimal weights on private and public signals. The evolution of such weights over time is the central element of investigation of this paper. To explore these issues, I employ a model where risk averse agents invest in a risky one-period asset: this means that all they need to know to make their investment decision is the current price and the liquidation value next period, equal to its fundamental value, while there is no need to forecast future prices. To allow for the accumulation of information over time, I adopt the modelling strategy proposed in Vives (1995b) and assume that in each period agents submit their market orders but trade takes place with some probability: if it does, the asset is liquidated at the end of the period and the market ends; if not, the following period the same process repeats, and agents can observe the
Data Loading...
