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Trading, Communication and the Response of Price to New Information

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  • Gary Gorton
  • James Dow

Abstract

The dynamic behavior of security prices is studied in a setting where two agents trade strategically and learn over time from market prices. The model introduces an information structure which is intended to capture the notion that information is difficult to interpret. Strategic interaction and the complexity of the information result in a protracted price response. Indeed, equilibrium price paths of the model may display reversals in which the two traders rationally revise their beliefs, first in one direction, and then in the opposite direction, even though no new information has entered the system. A piece of information which is initially thought to be bad news may be revealed, through trading, to be good news.

Suggested Citation

  • Gary Gorton & James Dow, 1991. "Trading, Communication and the Response of Price to New Information," NBER Working Papers 3687, National Bureau of Economic Research, Inc.
    • Handle: RePEc:nbr:nberwo:3687
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    References listed on IDEAS

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    Cited by:

    1. Tro Kortian, 1995. "Modern Approaches to Asset Price Formation: A Survey of Recent Theoretical Literature," RBA Research Discussion Papers rdp9501, Reserve Bank of Australia.

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