Elias Albagli

A Theory of Asset Prices Based on Heterogeneous Information

We propose a theory of asset prices that emphasizes heterogeneous information as the main element determining prices of different securities. Our main analytical innovation is in formulating a model of noisy information aggregation through asset prices, which is parsimonious and tractable, yet flexible in the specification of cash flow risks. We show that the noisy aggregation of heterogeneous investor beliefs drives a systematic wedge between the impact of fundamentals on an asset price, and the corresponding impact on cash flow expectations. The key intuition behind the wedge is that the identity of the marginal trader has to shift for different realization of the underlying shocks to satisfy the market-clearing condition. This identity shift amplifies the impact of price on the marginal traders expectations. We derive tight characterization for both the conditional and the unconditional expected wedges. Our first main theorem shows how the sign of the expected wedge (that is, the difference between the expected price and the dividends) depends on the shape of the dividend payoff function and on the degree of informational frictions. Our second main theorem provides conditions under which the variability of prices exceeds the variability for realized dividends. We conclude with two applications of our theory. First, we highlight how heterogeneous information can lead to systematic departures from the Modigliani-Miller theorem. Second, in a dynamic extension of our model we provide conditions under which bubbles arise.

Investment Horizons and Asset Prices Under Asymmetric Information

I study a financial market with a generalized overlapping generations structure. Investors live for an arbitrary number of periods, and are asymmetrically informed about future dividends of a risky asset. I compare pricing moments, and the informational content of prices, across economies with different investment horizons. Horizons affect prices through two key mechanisms: as horizons increase, the age-adjusted risk aversion of the average investor falls, and the risk transfer from forced liquidators into voluntary buyers drops. For long enough horizons, there exist two equilibria: a stable, low-volatility equilibrium in which longer horizons reduce price variability and raise average prices, and an unstable, high-volatility equilibrium with the opposite properties. Along the stable equilibrium, longer horizons reduce non-fundamental price volatility and incite more aggressive trading by the informed investors, which impounds their knowledge into prices. Longer horizons thus improve market efficiency, and reduce the uncertainty of the uninformed investors. Expected returns and return volatility are similar to an economy with full-information about fundamentals, even if the informed are relatively few. For short horizons, cautious trading disaggregates information from prices, and the economy approaches one with no private information.

Amplification of Uncertainty in Illiquid Markets

This paper argues that the capacity of financial markets to aggregate dispersed information about economic conditions is diminished in times of distress, resulting in countercyclical uncertainty. Building on a rational expectations equilibrium dynamic environment, I model informed traders as financial intermediaries facing countercyclical fund outflows. As conditions deteriorate, households pull out their funding from intermediaries and force premature liquidations, exposing intermediaries to lower expected returns and non-fundamental price fluctuations. In anticipation, risk-averse intermediaries trade less aggressively to private information and the informational content of equilibrium asset prices is reduced. The model highlights a dynamic interdependence between price informativeness and the endogenous severity of liquidations when both intermediaries and traders who absorb their asset liquidations learn from prices. This mutual reinforcement creates a strong internal amplification mechanism that delivers sharp spikes in economic uncertainty as funding becomes tighter. The mechanism can explain the time-variation in the risk premium, Sharpe ratio and volatility even when risk aversion and the variance of fundamental shocks remain constant. In contrast to theories stressing exogenous variations in preferences or heteroskedastic volatility of fundamentals, the mechanism highlighted suggests fluctuations in the risk premium can be sub-optimal to the extent they arise from the endogenous disaggregation of information in funding-constrained asset markets.

Information Aggregation, Investment, and Managerial Incentives

We study the interplay of share prices and firm decisions when share prices aggregate and convey noisy information about fundamentals to investors and managers. First, we show that the informational feedback between the firms share price and its investment decisions leads to a systematic premium in the firms share price relative to expected dividends. Noisy information aggregation leads to excess price volatility, over-valuation of shares in response to good news, and undervaluation in response to bad news. By optimally increasing its exposure to fundamental risks when the market price conveys good news, the firm shifts its dividend risk to the upside, which amplifies the overvaluation and explains the premium. Second, we argue that explicitly linking managerial compensation to share prices gives managers an incentive to manipulate the firms decisions to their own benefit. The managers take advantage of shareholders by taking excessive investment risks when the market is optimistic, and investing too little when the market is pessimistic. The amplified upside exposure is rewarded by the market through a higher share price, but is inefficient from the perspective of dividend value.

Channels of US Monetary Policy Spillovers into International Bond Markets

We document significant US monetary policy (MP) spillovers to international bond markets. Our methodology identifies US MP shocks as the change in short-term treasury yields within a narrow window around FOMC meetings, and traces their effects on international bond yields using panel regressions. We emphasize three main results. First, US MP spillovers to long-term yields have increased substantially after the global financial crisis. Second, spillovers are large compared to the effects of other events, and at least as large as the effects of domestic MP after 2008. Third, spillovers work through different channels, concentrated in risk neutral rates (expectations of future MP rates) for developed countries, but predominantly on term premia in emerging markets. In interpreting these findings, we provide evidence consistent with an exchange rate channel, according to which foreign central banks face a tradeoff between narrowing MP rate differentials, or experiencing currency movements against the US dollar. Developed countries adjust in a manner consistent with freely floating regimes, responding partially with risk neutral rates, and partially through currency adjustments. Emerging countries display patterns consistent with FX interventions, which cushion the response of exchange rates but reinforce capital flows and their effects in bond yields through movements in term premia. Our results suggest that the endogenous effects of FXI on long-term yields should be added into the standard cost-benefit analysis of such policies.

Property Rights Protection, Information Acquisition, and Asset Prices: Theory and Evidence

We study return comovement and relative pricing of two classes of shares with identical voting rights and cash-flow rights but for different investor clienteles: A-shares for domestic investors and B-shares for foreign investors. We first document a surprisingly low return comovement between A- and B-shares of the same firm, which is even lower than the average B-shares comovement with B-shares issued by different firms. Local investor property rights protection of the city where the firm is incorporated, and several firm opaqueness measures, explain the cross-sectional variations of the low comovement. In addition, local investor property rights protection and firm opaqueness also explain the relative pricing of A-B shares.