Pricing derivatives in the presence of shadow costs of incomplete information and short sales

Mondher Bellalah ()
Additional contact information
Mondher Bellalah: University de Cergy

Annals of Operations Research, 2018, vol. 262, issue 2, No 8, 389-411

Abstract: Abstract Financial models are based on the standard assumptions of frictionless markets, complete information, no transaction costs and no taxes and borrowing and short selling without restrictions. Merton’s (J Finance 42:483–510, 1987) develops a simple model of capital market equilibrium with incomplete information. Wu et al. (Rev Quant Finance Account 7:119–136, 1996) extend Merton’s (J Finance 42:483–510, 1987) model by proposing an incomplete information capital market equilibrium with heterogeneous expectations and short sale restrictions, GCAPM. The shadow costs include two components. The first component is the product of pure information cost due to imperfect knowledge and heterogeneous expectations. The second component represents the additional cost caused by the short-selling constraint. Short-selling bans around the world after the global financial crisis become more and more important. Nezafat and Wang (Short-sale constraints, information acquisition, and asset prices, Scheller College of Business, Georgia Institute of Technology, Atlanta, p 30308, 2013) develop a model of information acquisition and portfolio choice under short-sale constraints. Bellalah (J Futures Mark, 1999) and Bellalah and Wu (Ann Oper Res 165:123–143, 2009) include information costs the valuation of assets and derivatives. This is the first study to our knowledge devoted to the pricing of derivatives that accounts simultaneously for information costs and short sales constraints for the option market and its underlying asset market. We extend the classic models by Black and Scholes (J Polit Econ 81:637–659, 1973), Black (J Financ Econ 79(3):167–179, 1976), and Barone-Adesi and Whaley (J Finance 2(81):303–320, 1987) among others to account for shadow costs of incomplete information and short sales. We present a general method and provide the general differential equation for the pricing of derivatives within incomplete information and short selling costs.

Keywords: Pricing; Incomplete information; Differential equation; Derivatives; Information costs; Short sales costs (search for similar items in EconPapers)
JEL-codes: G3 G31 G32 G33 (search for similar items in EconPapers)
Date: 2018
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (1)

Downloads: (external link)
http://link.springer.com/10.1007/s10479-016-2256-7 Abstract (text/html)
Access to the full text of the articles in this series is restricted.

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:spr:annopr:v:262:y:2018:i:2:d:10.1007_s10479-016-2256-7

Ordering information: This journal article can be ordered from
http://www.springer.com/journal/10479

DOI: 10.1007/s10479-016-2256-7

Access Statistics for this article

Annals of Operations Research is currently edited by Endre Boros

More articles in Annals of Operations Research from Springer
Bibliographic data for series maintained by Sonal Shukla () and Springer Nature Abstracting and Indexing ().