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Collateralization and asset price bubbles when investors disagree about risk

Author

Listed:
  • Tobias Broer

    (PSE - Paris School of Economics - UP1 - Université Paris 1 Panthéon-Sorbonne - ENS-PSL - École normale supérieure - Paris - PSL - Université Paris Sciences et Lettres - EHESS - École des hautes études en sciences sociales - ENPC - École des Ponts ParisTech - CNRS - Centre National de la Recherche Scientifique - INRAE - Institut National de Recherche pour l’Agriculture, l’Alimentation et l’Environnement, PJSE - Paris Jourdan Sciences Economiques - UP1 - Université Paris 1 Panthéon-Sorbonne - ENS-PSL - École normale supérieure - Paris - PSL - Université Paris Sciences et Lettres - EHESS - École des hautes études en sciences sociales - ENPC - École des Ponts ParisTech - CNRS - Centre National de la Recherche Scientifique - INRAE - Institut National de Recherche pour l’Agriculture, l’Alimentation et l’Environnement, Stockholm University, CEPR - Center for Economic Policy Research)

  • Afroditi Kero

    (Neapolis University)

Abstract

Survey respondents disagree strongly about the dispersion of future returns and, increasingly, macroeconomic uncertainty. Such disagreement about risk may raise asset prices when collateralized debt products allow investors to realize perceived gains from trade. Investors who expect low volatility in collateral cash-flow appreciate senior debt as riskless. Those who expect high volatility, in contrast, value the upside potential in junior debt or equity claims. We show how such self-selection may have had a sizeable effect on the prices of RMBS and CDOs before the crisis, as investors disagreed about the volatility of aggregate economic conditions and their importance for default rates in collateral pools.

Suggested Citation

  • Tobias Broer & Afroditi Kero, 2021. "Collateralization and asset price bubbles when investors disagree about risk," Post-Print hal-04459549, HAL.
    • Handle: RePEc:hal:journl:hal-04459549
    DOI: 10.1016/j.jbankfin.2021.106137
    as

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