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Rational limits to arbitrage

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  • Zigrand, Jean-Pierre

Abstract

It is often argued that asset prices exhibit patterns incompatible with the behaviour of rational, optimizing agents. This paper proposes a rational framework which generates asset prices which appear irrational. This is accomplished by studying rational expectations equilibria in the presence of two realistic market frictions: immediacy risk (agents have to submit their demand functions before they know the equilibrium price) and asset-specific orders (investors have to submit one seperate demand for each asset, which may not be contingent upon the prices of the other assets). We study some of the properties of such equilibria, in particular the prevalence of arbitrage and of informational inefficiencies.

Suggested Citation

  • Zigrand, Jean-Pierre, 2001. "Rational limits to arbitrage," LSE Research Online Documents on Economics 25068, London School of Economics and Political Science, LSE Library.
    • Handle: RePEc:ehl:lserod:25068
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    File URL: http://eprints.lse.ac.uk/25068/
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    References listed on IDEAS

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    Cited by:

    1. Danielsson, Jon & Taylor, Ashley & Zigrand, Jean-Pierre, 2005. "Highwaymen or heroes: Should hedge funds be regulated?: A survey," Journal of Financial Stability, Elsevier, vol. 1(4), pages 522-543, October.
    2. Danielsson, Jon & Taylor, Ashley & Zigrand, Jean-Pierre, 2004. "Highwaymen or heroes: should hedge funds be regulated?," LSE Research Online Documents on Economics 24782, London School of Economics and Political Science, LSE Library.

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    More about this item

    JEL classification:

    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • D50 - Microeconomics - - General Equilibrium and Disequilibrium - - - General
    • D8 - Microeconomics - - Information, Knowledge, and Uncertainty

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