Background Risk and Trading in a Full-Information Rational Expectations Economy
نویسندگان
چکیده
In this paper, we assume that investors have the same information, but trade due to the evolution of their non-market wealth. Investors rebalance their portfolios in response to changes in their expected non-market wealth, and hence trade. Risky nonmarket wealth is non-hedgeable and independent of market risk, and thus represents an additive background risk. Investors who experience positive shocks to their expected wealth buy more stocks from those who experience less positive shocks. The demands of the two agents are convex or concave in the state of the economy, which justifies trading in the aggregate assets and contingent claims. JEL Classification Codes: D52, D53, G10
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