Journal Article

Information Markets and the Comovement of Asset Prices

Laura L. Veldkamp

in The Review of Economic Studies

Published on behalf of Review of Economic Studies Ltd

Volume 73, issue 3, pages 823-845
Published in print July 2006 | ISSN: 0034-6527
Published online July 2006 | e-ISSN: 1467-937X | DOI: http://dx.doi.org/10.1111/j.1467-937X.2006.00397.x
Information Markets and the Comovement of Asset Prices

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  • Information, Knowledge, and Uncertainy
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Traditional asset pricing models predict that covariance between prices of different assets should be lower than what we observe in the data. This paper introduces markets for information that generate high price covariance within a rational expectations framework. When information is costly, rational investors only buy information about a subset of the assets. Because information production has high fixed costs, competitive producers charge more for low-demand information than for high-demand information. The low price of high-demand information makes investors want to purchase the same information that others are purchasing. When investors price assets using a common subset of information, news about one asset affects the other assets' prices; asset prices comove. The cross-sectional and time-series properties of comovement are consistent with this explanation.

Keywords: D83; G12

Journal Article.  11657 words.  Illustrated.

Subjects: Information, Knowledge, and Uncertainy ; Economics

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