Martingale Restrictions on Equilibrium Prices of Arrow-Debreu Securities Under Rational Expectations and Consistent Beliefs
- Creators
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Bossaerts, Peter
Abstract
Consider the Rational Expectations price history of an Arrow-Debreu security that matures in the money: p1; p2; …; pr. Past information can be used to predict the return pt+1 - pt) = pt. Now consider a simple alternative performance measure: (pt+1 - pt)=pt+1. It differs from the return only in that the future price is used as basis. This variable cannot be forecasted from past information. The result obtains even if investors' beliefs are biased, i.e., prices are not set in a Rational Expectations Equilibrium (REE). It depends only on investors' using the rules of conditional probability to process information. More precisely, the result continues to hold in the Bayesian Equilibrium with Consistent Beliefs (CBE) introduced by Harsanyi [1967]. Many related results are proved in this paper and extensions to the pricing of equity subject to bankruptcy risk are discussed.
Additional Information
This is part of a paper that the author presented at the Université des Sciences Sociales, Toulouse, in April 1995. He is grateful for the many comments from the seminar participants. He also thanks Christian Gouriéroux for suggesting the analysis in reverse time. In addition, the paper benefited through discussions at seminars at Carnegie Mellon University, U.C. Riverside, University of Minnesota, and through comments from Oleg Bondarenko, Alan Kraus, P.C.B. Phillips and Richard Roll. Oleg Bondarenko provided able research assistance. The usual disclaimer applies.Attached Files
Submitted - sswp958.pdf
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Additional details
- Eprint ID
- 80528
- Resolver ID
- CaltechAUTHORS:20170816-162131145
- Created
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2017-08-17Created from EPrint's datestamp field
- Updated
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2019-10-03Created from EPrint's last_modified field
- Caltech groups
- Social Science Working Papers
- Series Name
- Social Science Working Paper
- Series Volume or Issue Number
- 958