Arbitrage and Beliefs

  title={Arbitrage and Beliefs},
  author={Paymon Khorrami and Alexander Zentefis},
  journal={Capital Markets: Asset Pricing \& Valuation eJournal},
We study a segmented-markets setting in which self-fulfilling volatility can arise. The only requirements are (i) asset price movements redistribute wealth across markets (e.g., equities rise as bonds fall) and (ii) some stabilizing force keeps valuation ratios stationary (e.g., cash flow growth rises when valuations rise). We prove that when self-fulfilling volatility exists, arbitrage opportunities must also exist. Conversely, at times when arbitrage profits exist, asset markets are… 
Rational Sentiments and Financial Frictions∗
We provide a complete analysis of previously undocumented sunspot equilibria in a canonical dynamic economy with imperfect risk sharing. Methodologically, we employ stochastic stability theory to
A Long and a Short Leg Make For a Wobbly Equilibrium
We provide evidence that the online discussion on the WSB subreddit had a substantial negative impact on the profitability of shorting strategies across a number of stocks — even those that were


Self-Fulfilling Asset Prices
This paper explains that anticipated market liquidity is an important concern for arbitrageurs considering entry into a market, a concern that can generate self-fulfilling asset prices. In the
Risk in Dynamic Arbitrage: The Price Effects of Convergence Trading
This paper studies the adverse price effects of convergence trading. I assume two assets with identical cash flows traded in segmented markets. Initially, there is gap between the prices of the
Equilibrium and Welfare in Markets with Financially Constrained Arbitrageurs
We propose a multiperiod model in which competitive arbitrageurs exploit discrepancies between the prices of two identical risky assets traded in segmented markets. Arbitrageurs need to collateralize
Incentive Constrained Risk Sharing, Segmentation, and Asset Pricing
Incentive problems make securities’ payoffs imperfectly pledgeable, limiting agents’ ability to issue liabilities. We analyze the equilibrium consequences of such endogenous incompleteness in a
Are Intermediary Constraints Priced?
Violations of no-arbitrage conditions measure the shadow cost of constraints on intermediaries, and the risk that these constraints tighten is priced. We demonstrate in an intermediary-based asset
Noise Trader Risk in Financial Markets
We present a simple overlapping generations model of an asset market in which irrational noise traders with erroneous stochastic beliefs both affect prices and earn higher expected returns. The
Asset Bubbles and Credit Constraints
We provide a theory of rational stock price bubbles in produc tion economies with infinitely lived agents. Firms meet stochast ic investment opportunities and face endogenous credit constraints. The
Losing Money on Arbitrage: Optimal Dynamic Portfolio Choice in Markets with Arbitrage Opportunities
We derive the optimal investment policy of a risk-averse investor in a market where there is a textbook arbitrage opportunity, but where liabilities must be secured by collateral. We find that it is
A Search-Based Theory of the On-the-Run Phenomenon
We propose a model in which assets with identical cash flows can trade at different prices. Infinitely-lived agents can establish long positions in a search spot market, or short positions by first
Rational Equilibrium Asset-Pricing Bubbles in Continuous Trading Models
It is shown that bubbles can generally exist and have properties different from their discrete-time, infinite-horizon counterparts, and a probabilistic approach to studying bubbles is introduced.