Financial modelling with random bridge signals and forward information

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2016
Aydın, Nadi Serhan
In this thesis, we focus on modelling financial information flow, and information-based asset pricing. The fundamental properties of the framework under study are recovered in detail, after which a brief information-theoretic perspective is offered to quantify the information content of signals. A link to the existing literature on asymmetric information/belief equilibrium is established through a sequential auction model with heterogeneous signals. The effects of differential information on the allocation of overall profit & loss (P&L) and the pace of price discovery are analysed − including the case where agents work out an effective filtration by mutually learning from trade. We characterise the signal-based expected P&L of agents based on explicit formulae for signal quality in terms of the correctness of trade direction, and explore for the existence of an optimal strategy by introducing a dynamic-programming-based decision rule, when there is a common anticipation of gains from trade. A short extension of the optimisation problem to the cases of ‘risk-adjusted gains’ and ‘risk-averse agents’ is provided. Finally, we examine, through a particular choice of real-world signal and by introducing a slightly modified version of the information process, the practical viability of the signal-based framework on a selected stock ticker. An analytical approximation to information-based price is derived through the Kummer’s function.

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Citation Formats
N. S. Aydın, “Financial modelling with random bridge signals and forward information,” Ph.D. - Doctoral Program, Middle East Technical University, 2016.