Workshop Info

Titles and Abstracts:

Large Orders in Small Markets: On Optimal Execution with Endogenous Liquidity Supply by Agostino Capponi (Columbia)

We solve a Stackelberg game where a large uninformed seller executes optimally, fully cognizant of the response of Cournot-competitive market makers. The game therefore endogenizes both demand and supply of liquidity. The closed-form solution yields several insights. First, stealth trading is both privately and socially costly because market makers incur additional cost not knowing when execution ends. Second, the presence of a large seller does not unambiguously benefit other participants. Market makers benefit only if there is enough risk-absorption capacity or if the execution period is short. Other investors benefit only when the seller sells at high enough intensity. This is joint work with Albert Menkveld and Hongzhong Zhang.

Dynamic Information Regimes in Financial Markets by Paul Glasserman (Columbia)

We develop a dynamic model of information and asset prices in which investor information choices influence the level of available public and private information about fundamentals. We study two types of feedback. In the first, as more investors become informed, more information about fundamentals becomes available. As a consequence, two regimes emerge, one with higher prices and lower volatility, and one with lower prices and higher volatility. Information dynamics move the market between regimes, creating large market drops and rallies, with no change in fundamentals, but large changes in discount rates reflecting changes in information asymmetry between informed and uninformed investors. In the second type of feedback we study, an increase in the number of informed investors leads to greater public information through leakage or disclosures; this mechanism has a stabilizing effect. When calibrated to market data, the positive feedback model suggests a role for information dynamics in financial crises; the negative feedback model helps explain empirical findings in the literature on the market reaction to the loss of analyst coverage. This is joint work with Harry Mamaysky and Yiwen Shen.

Dynamic Rational Expectations Equilibrium with Insider Information by Scott Robertson (Boston University)

We study equilibria in multi-asset and multi-agent continuous-time economies with asymmetric information. We establish existence of two equilibria. First, a full communication one where the informed agents' signal is disclosed to the market, and static policies are optimal. Second, a partial communication one where the signal disclosed is affine in the informed and noise traders' signals. Here, information asymmetry creates a demand for a dark pool with endogenous participation where private information trades can be implemented. Markets are endogenously complete and equilibrium prices have a three factor structure. Results are valid for multiple dimensions; constant absolute risk averse investors; fundamental processes following a general diffusion; non-linear terminal payoffs, and non-Gaussian noise trading. Asset price dynamics and public information flows are endogenous, and are established using multiple filtration enlargements, in conjunction with predictable representation theorems for random analytic maps. Rational expectations equilibria are special cases of the general results. After presenting the case for a single insider signal received at time zero, we will discuss the case when multiple insiders receiving multiple signals throughout time. This is joint work with Marcel Rindisbacher and Jerome Detemple.

Financing Insurance in General Equilibrium by S. Viswanathan (Duke)

Links: Slides Paper

Insurance has an intertemporal aspect as insurance premia have to be paid up front. We argue that the financing of insurance is key to understanding basic insurance patterns and insurers' balance sheets. Limited enforcement implies that insurance is globally monotone increasing in household net worth and income, incomplete, and precautionary. These results hold in economies with income risk, durable goods and collateral constraints, and durable goods price risk, under quite general conditions. In equilibrium, insurers are financial intermediaries with collateralized loans as assets and diversified portfolios of insurance claims as liabilities. Collateral scarcity lowers the interest rate, reduces insurance, and increases inequality.

Rational inattention and dynamic discrete choice by Hao Xing (Boston University)

We adopt the posterior-based approach to study dynamic discrete choice problems with rational inattention. We show that the optimal solution for the Shannon entropy case is characterized by a system of equations that resembles the dynamic logit rule. We propose an efficient algorithm to solve this system and apply our model to explain phenomena such as status quo bias, confirmation bias, and belief polarization. We also study the dynamics of consideration sets. Unlike the choice-based approach, our approach applies to general uniformly posterior-separable information cost functions. A key condition for our approach to work in dynamic models is the convexity of the difference between the discounted (generalized) entropy of the prior beliefs about the future states and the entropy of the current posterior. This is a joint work with Jianjun Miao.

An incomplete equilibrium with a stochastic annuity by Gordan Zitkovic (UT Austin)

We prove the global existence of an incomplete, continuous-time finite-agent Radner equilibrium in which exponential agents optimize their expected utility over both running consumption and terminal wealth. The market consists of a traded annuity, and, along with unspanned income, the market is incomplete. Set in a Brownian framework, the income is driven by a multidimensional diffusion, and, in particular, includes mean-reverting dynamics. The equilibrium is characterized by a system of fully coupled quadratic backward stochastic differential equations, a solution to which is proved to exist under Markovian assumptions.