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Asset Pricing with Heterogeneous Beliefs and Illiquidity

Johannes Muhle-Karbe, Marcel Nutz and Xiaowei Tan

Papers from arXiv.org

Abstract: This paper studies the equilibrium price of an asset that is traded in continuous time between N agents who have heterogeneous beliefs about the state process underlying the asset's payoff. We propose a tractable model where agents maximize expected returns under quadratic costs on inventories and trading rates. The unique equilibrium price is characterized by a weakly coupled system of linear parabolic equations which shows that holding and liquidity costs play dual roles. We derive the leading-order asymptotics for small transaction and holding costs which give further insight into the equilibrium and the consequences of illiquidity.

Date: 2019-05, Revised 2020-03
New Economics Papers: this item is included in nep-bec, nep-gth and nep-mst
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