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Bond Prices Under Information Asymmetry and a Short Rate with Instantaneous Feedback

Author

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  • Prakash Chakraborty

    (Purdue University
    University of Michigan)

  • Kiseop Lee

    (Purdue University)

Abstract

We study an information asymmetry problem in a bond market. Especially we derive bond price dynamics of traders with different levels of information. We allow all information processes as well as the short rate to have jumps in their sample paths, thus representing more dramatic movements. In addition we allow the short rate to have instantaneous feedbacks from the current levels of itself and these information processes. A fully informed trader observes all information which affects the bond price while a partially informed trader observes only a part of it. We first obtain the bond price dynamic under the full information, and also derive the bond price of the partially informed trader using Bayesian filtering method. The key step is to perform a change of measure so that the dynamic under the new measure becomes computationally efficient.

Suggested Citation

  • Prakash Chakraborty & Kiseop Lee, 2022. "Bond Prices Under Information Asymmetry and a Short Rate with Instantaneous Feedback," Methodology and Computing in Applied Probability, Springer, vol. 24(2), pages 613-634, June.
    • Handle: RePEc:spr:metcap:v:24:y:2022:i:2:d:10.1007_s11009-021-09922-1
    DOI: 10.1007/s11009-021-09922-1
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    References listed on IDEAS

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