{Image: Morning Meeting at the Fish Market}

The book starts off by building simple Cournot models of large markets, showing where and when the informational equilbria correspond to efficient allocative equilibria. The first few chapters are tough going (especially chapter 2), but once you’ve gotten your head around the general approach, which is, assume a continuum or assets and workers, and draw statistical inferences from the assumed interactions of these players, which correspond to equilibria in defintie settings according to standard Bayesian criteria.

The goal is to show the equivalence of anomalous results in behaviural economics to rational expectations equilibria, in different assumption-settings.

I found the first part of the book really interesting, and will use the approach Vives develops in my financial economics course, EC4024, next year. The second half of the book really loses me, however, especially chapter 9, sections 9.0–9.2, where we see a rational expectations equilibrium emerging, even though some of the traders are ’slow learners’. I can’t get my head around why a slow learner in a financial market could persist for long enough to attain an equilibrium. We see that market microstructure really matters for the information revelation properties of prices, but we don’t see the connection with the real world.

All in all though, this book is a nice, well paced, and at the end a very technical introduction to Bayesian thinking about price dynamics in markets with asymmetric information. The going is tough, but in parts the work one puts in will really worth it. Expect to see more of Vives’ work on my financial economics course next semester, in elementary from of course.

Courses this book will be good for: PhD financial economics and mathematics, industrial organisation, or a Bayesian decision making seminar.

Here’s the slide in AMBAC trading that led to a stop in the market yesterday. Ouch, what a jump!

link

Tags: EC4024

1. [EC6012] Asking students to give other students feedback on presentations isn’t smart: everyone will give everyone else a B+.

2. [EC4004] Text messaging in large classes works, but could be more effective if integrated properly into the lecture.

3. [EC6012] Modeling and numerical problem solving are preferable to problem-based methods in such a technical subject, with such defined end goals.

4. [EC4414] Students respond well to zero PowerPoint, though they take time to adjust to having technical pieces to read instead.

5. [EC4333] It’s always better to think in terms of concrete examples when teaching heterogenous classes, graphical models like the AS-AD and IS-LM need to be motivated carefully.

6. [EC4024] Students need more time with harder, abstruse material, like the Black-Scholes and APT models.

-For Next Year-

1. Improve and enhance the text message doo-hickey.

2. Rewrite the course outline for EC4333 to be based around successive historical episodes and case studies rather than putting the history part first and the analysis afterwards.

3. Strip out some of the macro modeling in EC4024 to make way for more time spend solving numerical BS/APT/etc examples. Spend more time in tutorials on this as well.

4. Consider not using PowerPoint for EC4333 this year entirely.

5. Include experimental and behavioural experiments in the tutorials in EC4004.

EC4024_PS2_Answers.nb

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The podcasts of the lectures were downloaded so many times it broke the site, which is why the later lectures in the course are hosted by vimeo.com. You can find all the lectures after about week 6 here.

If there’s anything else you think I can do to make this area of the site more usable, short of giving you the answers to the exams, please let me know.

• read the financial pages

• understand what a stock, bond, or any risky asset is, and how to value it
• see the economists’ approach to decision making under uncertainty
• be exposed to the canonical models of finance: CAPM, APT, and Black-Scholes
• understand elementary probability theory, and data analysis
• see some of the episodes in financial history.
• get an inkling for the structure of the international financial system.

For the exam

In the exam you’ll be tested on all the material we went through in the module. The aspects of the course to focus on are the exercises we went through in class and in the notes, the textbook, and the readings, in that order of importance.

Make sure to download all the most recent copies of the notes (I’ve fixed typos, etc, over the semester), and ensure you’ve listened to all the podcasts of lecture material before the lecture.

Module: EC6012

Date: 19-May-08

Location: EGO10

Time: 16:00

Module: EC4024

Date: 13-May-08

Location: S114/15/16

Time: 09:00

Module: EC4004

Date: 12-May-08

Location: GYM,SPHALL

Time: 12:30

EC4024_2008_PS1_Answers.nb

“We have an irrational tendency to be less willing to gamble with profits than with losses..”

––Tvede (1999)

In these lectures, we’ll build on the insights of the Efficient and Adaptive Markets hypotheses developed in earlier lectures (here and here), and have a go at puling them down at the same time. This might sound contradictory, but it’s not. All science (even a pseudo-science like modern economics) advances through sustained and successful criticism. It’s ok to tear down the existing theory, but if you do, make sure there’s something to replace it with.

Stated baldly, Behavioural Finance is the study of the inefficiency of real world markets. Most of the time, behavioural finance theorists will borrow concepts from psychology or sociology to make their claims more realistic. The behavioural economics movement is closely aligned with the Neuroeconomics movement currently en vogue in academic economic circles. Dr. Liam Delaney of UCD’s Geary institute retains a bibliography of neuroeconomics readings, if you’re interested.

To the theory-proper. In previous lectures, we worked on the Efficient Markets Hypothesis: markets price traded assets to remove the possibility of arbitrage, making risk-less profits harder and harder to come by.

Nobellist Daniel Kahneman and his colleague Amos Tversky studied decision making under uncertainty over a long period of time (their most famous article is here). They found three heuristics people use to help them make judgements under uncertainty:

1. Representativeness. When possibly erroneous commonality between objects of similar appearance is assumed.

2. Availability. We base our predictions of the frequency of events or the proportion within a population based on how easily an example can be brought to mind.

3. Anchoring and Adjustment. We overly rely, on specific information or a specific value and then adjust to that value to account for other elements of the circumstance. Usually once the anchor is set, there is a bias toward that value.

In this lecture, we’ll look at Prospect theory and asset pricing, and compare Kahneman’s and Tversky’s theory to the data. We’ll also see how various famous behavioural economists (Profs. Shiller, Thaler, and Camerer).

In lecture 19, we’ll move on to consider Thaler’s ‘Anomalies’, holes he’s found in the existing body of theory, as they apply to Financial Economics.

Slides

| View | Upload your own

[Update] These links should work now.EC4024Lecture19.pdf

EC4024Lecture19.pdf

EC4024_Lecture1819_behaviouralFin.pdf

Links

Thaler’s Anomalies page, get the papers here.

UL students can email me for more information.

Details about the course can be found here.

The problem set is due Monday of week 11 before class. Hand the problem sets to me directly. There won’t be any extensions, etc, allowed, unless you have a very good (think medical) reason for handing it up late. This problem set is worth 10% of your final grade.

Problem sets are to be hand written, with you name and student number on each page.

Click the link below to read and/or download the problem set.

Update: Just click the ‘print this page’ link to get a printable version of the problem set.

Problem Set 2 EC4024 Financial Economics

Stephen Kinsella

April 2, 2008

Please include your name and student number on each page.

Due Monday, April 14, at 4pm, in BM015, the lecture hall for this class.

Question 0

You are a trader, asked to buy and sell 150 shares of Apple, Inc on the same day. The Bid is $49.75, the offer is $50, there is a commission of $15 on the trade. What is the total transaction cost on both the buy and sell trades?

Question 1

A 6 month put option has a strike price of 1000 dollars with a premium of 70 dollars. The 6 month risk free rate is 4%.

Calculate the profit to the holder of the option if the index value in 6 months is 900 dollars. Would you go long or short this put? Why?

Question 2

Today: A call buyer acquires the right to pay $1,020 in 5 months for a commodity. What is the buyer’s payoff if the price at month 5 is 1,100? And if it is 980? What would you advise the call buyer to do with their call?

Question 3

Today: A call seller is obligated to sell an index for $1,030 in 6 months if asked to do so. In 6 months, if the spot price is 1,110, what will the payoff to the seller be?

Question 4

A call option has the following characteristics:

Current stock price: $15, Exercise price: $15, Volatility: 40%, Option term: 2 years, Annual dividend: $1, Risk free interest rate: 4%.

Using the Black-Scholes model, price the option.

Question 5

A call option has the following characteristics:

Current stock price: $15, Exercise price: $15, Volatility: 70%, Option term: 2 years, Annual dividend: $1, Risk free interest rate: 4%.

Using the Black-Scholes model, price the option. Why is the price different from the one you calculated in question 4?

Question 6

You wish to sell short an asset, ABC, whose value you expect to fall. What sequence of trades should you go through to take a position and make the most of this expectation you have? Be as detailed as possible.

Individual Marks by student number are below the fold. Just click the link. Email me if you’ve any queries about your mark, or if you don’t see your number there.

Problem Set 1 EC4024 2008

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