Working Paper: NBER ID: w3707
Authors: Franklin Allen; Gary Gorton
Abstract: There has been a long-running debate about whether stock market prices are determined by fundamentals. To date no consensus has been reached. An important issue in this debate concerns the circumstances in which deviations from fundamentals are consistent with rational behavior. A continuous-time example where there are a finite number of rational traders with finite wealth is presented. it is shown that a finitely-lived security can trade above its fundamental.
Keywords: Asset Pricing; Bubbles; Rational Behavior; Asymmetric Information; Agency Problems
JEL Codes: G12; G14
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| agency problems (G34) | trading behavior (G41) |
| trading behavior (G41) | price deviations from fundamentals (F31) |
| portfolio managers' incentives (G11) | market dynamics (D49) |
| rational traders (D84) | prices above fundamental values (D46) |
| bad portfolio managers (G11) | bubbles (E32) |
| self-fulfilling beliefs (D83) | positive price paths (E30) |
| agency problems (G34) | price deviations from fundamentals (F31) |