Optimal Portfolio Choice and the Valuation of Illiquid Securities
Review of Financial Studies, 2001, vol. 14, issue 2, 407-31
Traditional models of portfolio choice assume that investors can continuously trade unlimited amounts of securities. In reality, investors face liquidity constraints. I analyze a model where investors are restricted to trading strategies that are of bounded variation. An investor facing this type of illiquidity behaves very differently from an unconstrained investor. A liquidity-constrained investor endogenously acts as if facing borrowing and short-selling constraints, and one may take riskier positions than in liquid markets. I solve for the shadow cost of illiquidity and show that large price discounts can be sustained in a rational model. Article published by Oxford University Press on behalf of the Society for Financial Studies in its journal, The Review of Financial Studies.
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Persistent link: https://EconPapers.repec.org/RePEc:oup:rfinst:v:14:y:2001:i:2:p:407-31
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Review of Financial Studies is currently edited by Maureen O'Hara
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