Dynamic Trading and Asset Prices: Keynes vs. Hayek

Giovanni Cespa and Xavier Vives

No 2839, CESifo Working Paper Series from CESifo

Abstract: We investigate the dynamics of prices, information and expectations in a competitive, noisy, dynamic asset pricing equilibrium model with long-term investors. We argue that the fact that prices can score worse or better than consensus opinion in predicting the fundamentals is a product of endogenous short-term speculation. For a given, positive level of residual payoff uncertainty, if noise trade displays low persistence rational investors act like market makers, accommodate the order flow, and prices are farther away from fundamentals compared to consensus. This defines a “Keynesian” region; the complementary region is “Hayekian” in that rational investors chase the trend and prices are systematically closer to fundamentals than average expectations. The standard case of no residual uncertainty and noise trading following a random walk is on the frontier of the two regions and identifies the set of deep parameters for which rational investors abide by Keynes’ dictum of concentrating on an asset “long term prospects and those only.” The analysis explains how accommodation and trend chasing strategies differ from momentum and reversal phenomena because of the different information sets that investors and an outside observer have.

Keywords: efficient market hypothesis; long and short-term trading; average expectations; higher order beliefs; over-reliance on public information; opaqueness; momentum; reversal (search for similar items in EconPapers)
JEL-codes: G10 G12 G14 (search for similar items in EconPapers)
Date: 2009
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (4)

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Related works:
Journal Article: Dynamic Trading and Asset Prices: Keynes vs. Hayek (2012)
Working Paper: Dynamic Trading and Asset Prices: Keynes vs. Hayek (2009)
Working Paper: Dynamic Trading and Asset Prices: Keynes vs. Hayek (2008)
Working Paper: Dynamic trading and asset prices: Keynes vs. Hayek (2007)
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Persistent link: https://EconPapers.repec.org/RePEc:ces:ceswps:_2839

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