This website uses cookies.

By clicking the "Accept" button or continuing to browse our site, you agree to first-party and session-only cookies being stored on your device to enhance site navigation and analyze site performance and traffic. For more information on our use of cookies, please see our Privacy Policy.

  1. Home
  2. ASSA Annual Meeting
  3. 2021
  4. Preliminary Program
  5. Asset Pricing: Frictions and Mispricing
« Back to Results

Asset Pricing: Frictions and Mispricing

Paper Session

Monday, Jan. 4, 2021 10:00 AM - 12:00 PM (EST)

Hosted By: American Finance Association
  • Chair: Stefano Giglio, Yale University

In Search of the Origins of Financial Fluctuations: The Inelastic Markets Hypothesis

Xavier Gabaix
,
Harvard University
Ralph S.J. Koijen
,
University of Chicago

Abstract

We provide a framework to theoretically and empirically analyze the fluctuations of the stock market, in which price movements partly result from flows in and out of equities. Stocks are managed by funds that have a mandate, for example an equity share that is fixed or has only moderate scope for variation, while households' and firms' decisions lead to stochastic demand and supply shocks in the equity market. Abstract As a result, the price elasticity of demand for the aggregate stock market is small, around 0.1, so that prices are very sensitive to flows: using the recent method of granular instrumental variables, we find that investing $1 in the stock market increases the market's aggregate value by about $10. Hence, flows can account for a large fraction of stock volatility – at least half of it. One implication is that stock buybacks may have a large aggregate effect. Abstract Together, these facts are hard to explain with a rational representative-agent model, but instead suggest a productive set of new researchable questions and a method to answer them. The mystery of apparently random movements of the stock market, ill-linked to fundamentals, is replaced by the much more manageable problem of understanding the determinants of flows in inelastic markets. We delineate a research agenda that can explore a number of questions raised by this analysis, and might lead to a more concrete understanding of the origins of financial fluctuations. https://papers.ssrn.com/sol3/papers.cfm?abstract_id=3686935

Bubbles and the Value of Innovation

Valentin Haddad
,
University of California-Los Angeles
Paul Ho
,
Federal Reserve Bank of Richmond
Erik Loualiche
,
University of Minnesota

Abstract

Episodes of booming firm creation coincide with intense speculation on financial markets leading to bubbles — increases in private market valuations and real investment followed by a crash. We provide a framework reproducing these facts and we analyze how speculation changes both the private and the social value of new firm entry. In our model, measures based on financial markets information, in contrast to measures grounded in real outcomes, indicate that speculation increases the private value of innovation and reduces negative spillovers to competing firms. We confirm these predictions empirically in the universe of U.S. patents issued between 1926 and 2010.

Factor Demand and Factor Returns

Cameron Peng
,
London School of Economics
Chen Wang
,
Yale University

Abstract

A mutual fund’s demand for a pricing factor, measured by the loading of the fund’s returns on the factor’s returns, is persistent over time. When stock characteristics are time-varying and change frequently, persistence in factor demand generates a need for rebalancing. This rebalancing motive, in turn, leads to predictable trading from mu- tual funds and contributes to cross-sectional return predictability. In particular, when there is a “mismatch” between a stock’s characteristic and the underlying funds’ de- mand for that characteristic, the “mismatched” stock will face selling pressure from the underlying funds and subsequently earn lower returns. Double-sorting on stocks’ char- acteristics and mutual funds’ factor demand refines value and momentum strategies, generating abnormal returns that cannot be explained by subsequent fundamentals or retail trading flows.

Asset Pricing with Misspecified Models

Pooya Molavi
,
Northwestern University
Alireza Tahbaz-Salehi
,
Northwestern University
Andrea Vedolin
,
Boston University

Abstract

We provide a framework to study the implications of model misspecification on asset prices. We consider an economy in which agents can only entertain models with at most k factors, where k may be distinct from the true number of factors that drive the economy’s fundamentals. We first characterize the implications of the resulting departure from rational expectations for return predictability at various horizons. We then apply our framework to two applications in asset pricing: (i) violation of uncovered interest rate parity at different horizons and (ii) momentum and reversal in equity returns. When applied to these contexts, our framework matches the reversal of violations of uncovered interest rate parity at longer horizons observed in the data and delivers short-run momentum as well as long-term reversal in equity returns
Discussant(s)
Hanno N. Lustig
,
Stanford University
Alp Simsek
,
Massachusetts Institute of Technology
Marcin Kacperczyk
,
Imperial College London
Stavros Panageas
,
University of California-Los Angeles
JEL Classifications
  • G1 - Asset Markets and Pricing