Optimal Investment and Equilibrium Pricing under Ambiguity

Michail Anthropelos and Paul Schneider
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Paul Schneider: University of Lugano - Institute of Finance; Swiss Finance Institute

No 21-78, Swiss Finance Institute Research Paper Series from Swiss Finance Institute

Abstract: We consider portfolio selection under nonparametric alpha-maxmin ambiguity in the neighbourhood of a reference distribution. We show strict concavity of the portfolio problem under ambiguity aversion.Implied demand functions are nondifferentiable, resemble observed bid-ask spreads, and are consistent with existing parametric limiting participation results under ambiguity. Ambiguity seekers exhibit a discontinuous demand function, implying an empty set of reservation prices. If agents have identical, or sufficiently similar prior beliefs, the first best equilibrium is no trade. Simple sufficient conditions yield the existence of a Pareto-efficient second-best equilibrium which reconciles many observed phenomena in financial markets, such as liquidity dry-ups, portfolio inertia, and negative risk premia.

Keywords: ambiguity; equilibrium; asset pricing (search for similar items in EconPapers)
JEL-codes: C62 D84 G11 G12 G41 (search for similar items in EconPapers)
Pages: 29 pages
Date: 2021-11
New Economics Papers: this item is included in nep-des, nep-mic, nep-ore and nep-upt
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Related works:
Working Paper: Optimal Investment and Equilibrium Pricing under Ambiguity (2022)
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Persistent link: https://EconPapers.repec.org/RePEc:chf:rpseri:rp2178

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