Timing Games with Irrational Types: Leverage-Driven Bubbles and Crash-Contingent Claims

Hitoshi Matsushima

The B.E. Journal of Theoretical Economics, 2020, vol. 20, issue 1, 17

Abstract: This study investigates strategic aspect of leverage-driven bubbles from the viewpoint of game theory and behavioral finance. Even if a company is unproductive, its stock price grows up according to an exogenous reinforcement pattern. During the bubble, this company raises huge funds by issuing new shares. Multiple arbitrageurs strategically decide whether to ride the bubble by continuing to purchase shares through leveraged finance. We demonstrate two models that are distinguished by whether crash-contingent claim, i. e. contractual agreement such that the purchaser of this claim receives a promised monetary amount if and only if the bubble crashes, is available. We show that the availability of this claim deters the bubble; without crash-contingent claim, the bubble emerges and persists long even if the degree of reinforcement is insufficient. Without crash-contingent claim, high leverage ratio fosters the bubble, while with crash-contingent claim, it rather deters the bubble. We formulate these models as specifications of timing game with irrational types; each player selects a time in a fixed time interval, and the player who selects the earliest time wins the game. We assume that each player is irrational with a small but positive probability. We then prove that there exists the unique Nash equilibrium; according to it, every player never selects the initial time. By regarding arbitrageurs as players, we give careful conceptualizations that are necessary to interpret timing games as models of leverage-driven bubbles.

Keywords: timing games with irrational types; uniqueness; awareness heterogeneity; leverage-driven bubbles; crash-contingent claim (search for similar items in EconPapers)
JEL-codes: C72 C73 D82 G14 (search for similar items in EconPapers)
Date: 2020
References: Add references at CitEc
Citations: View citations in EconPapers (1)

Downloads: (external link)
https://doi.org/10.1515/bejte-2018-0088 (text/html)
For access to full text, subscription to the journal or payment for the individual article is required.

Related works:
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: https://EconPapers.repec.org/RePEc:bpj:bejtec:v:20:y:2020:i:1:p:17:n:10

Ordering information: This journal article can be ordered from
https://www.degruyter.com/journal/key/bejte/html

DOI: 10.1515/bejte-2018-0088

Access Statistics for this article

The B.E. Journal of Theoretical Economics is currently edited by Burkhard C. Schipper

More articles in The B.E. Journal of Theoretical Economics from De Gruyter
Bibliographic data for series maintained by Peter Golla ().