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Essays in financial markets

Tontivanichanon, Chutiorn (2019) Essays in financial markets. PhD thesis, The London School of Economics and Political Science (LSE).

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Abstract

This thesis contains three chapters discussing different aspects of financial markets. The first chapter studies the impact of learning information about future non-fundamental shocks on stock price dynamics and provides a new insight into how rational speculators can cause inefficiency and volatility to stock markets during periods of information technology advancement. I construct an infinite-period competitive market model and analyze how an increase in non-fundamental signal precision affects trading strategy of rational investors, price formation, and efficiency. Contradicting to traditional rational speculative theory, I found that higher non-fundamental signal precision can increase stock return volatility, increase price sensitivity to both current and future non-fundamental shocks, and decrease price informativeness. Moreover, even though investors have better information about future stock prices, they can predict stock returns less accurately. This is because the investors expect that their future counterparts will also trade more aggressively on new non-fundamental information that arrives in the future, causing future stock prices to be endogenously more volatile to new non-fundamental shocks which are unpredictable to the investors at the present. The second chapter develops a game-theoretic dynamic model to study strategic dealer choice of buy-side investors in over-the-counter (OTC) secondary asset markets and provides a new theory of why periphery dealers, despite locating at inferior positions in OTC dealer network, can survive and co-exist with core dealers. My theory is based on a premise that buy-side investors form a non-binding long-term relationship with core dealers to obtain costly liquidity in bad periods. The main finding is that periphery dealers can help investors with infrequent liquidity needs, those who cannot form the relationship with core dealers directly due to commitment problem, successfully obtain costly liquidity in bad periods. By connecting with several investors and forming relationship with a core dealer on their behalf, periphery dealer will have enough power to pressure the core dealer to commit to the relationship. Therefore, investors with infrequent liquidity needs will trade with periphery dealers to obtain the benefit of long-term relationship, granting market power to periphery dealers to co-exist with core dealers. The third chapter develops a game-theoretic model to study strategic formation of financial network. In the model, a finite number of risk-averse agents who invest in risky projects can issue and trade forward contracts (i.e. assets) to obtain fractions of investment return of other agents. All trades are bilateral, each involving two parties with trading relationship privately bargaining on asset price and quantity. The main objective is to examine how structural properties of trading network determine trading decision of the agents and equilibrium asset allocation. To this end, I use the concept of line graph transformation to identify network of asset flows and map positions of trading links onto the equilibrium outcome. The main insight is that equilibrium asset allocation corresponds to a generalized Bonacich centrality of the network of asset flows.

Item Type: Thesis (PhD)
Additional Information: © 2019 Chutiorn Tontivanichanon
Library of Congress subject classification: H Social Sciences > HG Finance
Sets: Departments > Economics
Supervisor: Nava, Francesco
URI: http://etheses.lse.ac.uk/id/eprint/3967

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