Assetbubble_(PartI).pptx

Asset Bubbles (Part I) Yanmin Qian Zhejiang University 2015 The 90’s ‘Bubble’ NASDAQ: 1993 to 2003 2005-2008 China Stock Market • Empirically, a bubble is a sequence of asset prices which are not justified by expectations of future dividends. – This is usually measured ex post (事后估计） – Question is: Did dividends turn out to be high enough to justify the past prices? – If yes, then no bubble. If no, then there was a bubble. What is a bubble? • Empirically, a bubble is a sequence of asset prices which are not justified by expectations of future dividends. – Problem: not possible to distinguish ex ante（事前估计） whether expectations are ‘not justified’ or ‘wrong’. – Even ex post, it is not so clear. If the red dividend is realized ex post, were expectations wrong ex ante? No! What is a bubble? • Theoretically, a bubble is also a sequence of asset prices which are not justified by the expectations on future dividends. – Put another way, bubble components of asset prices are not related to the asset’s fundamental value. – Theorist can more easily distinguish between ‘justified’ and ‘unjustified’ expectations, and hence between fundamental and bubble components of prices. What is a bubble? Rational Bubble --Only rational agents Symmetric Information Asymmetric Information 2. Irrational Bubble --Some irrational [‘behavioral’] agents --‘Limits to Arbitrage’ Models of Asset Bubbles 1. Rational agents, Symmetric Info • Asset- pricing Euler equation • Simplest case: Risk- neutral agents 1. Rational agents, Symmetric Info • Asset- pricing Euler equation for risk- neutral agents: • Solve forward: 1. Rational agents, Symmetric Info • Keep solving forward… bubble term fundamental term – Fundamental term is the discounted sum of expected dividends. – Bubble term is related to the asset’s price at the terminal date K 1. Rational agents, Symmetric Info bubble term fundamental term Result 1: No bubbles exist when agents are rational, information is symmet