Affiliation:
1. Columbia Business School, New York, New York 10027;
2. School of Business and Management, Hong Kong University of Science and Technology, Clear Water Bay, Kowloon 999077, Hong Kong
Abstract
We develop a model of investor information choices and asset prices in which the availability of information about fundamentals is time-varying and responds to investor demand for information. A competitive research sector produces more information when more investors are willing to pay for that research. This feedback, from investor willingness to pay for information to more information production, generates two regimes in equilibrium, one having high prices and low volatility, the other the opposite. The low-price, high-volatility regime is associated with greater information asymmetry between informed and uninformed investors. Information dynamics move the market between regimes, creating large price drops even with no change in fundamentals. In our calibration, the model suggests an important role for information dynamics in financial crises. This paper was accepted by Kay Giesecke, finance. Supplemental Material: The online appendix and data are available at https://doi.org/10.1287/mnsc.2021.01213 .
Publisher
Institute for Operations Research and the Management Sciences (INFORMS)
Subject
Management Science and Operations Research,Strategy and Management