Trading Ambiguity: A Tale of Two Heterogeneities

50 Pages Posted: 3 Dec 2018 Last revised: 18 Apr 2022

See all articles by Sujoy Mukerji

Sujoy Mukerji

Queen Mary University of London; International Centre for Economic Research (ICER)

Han N. Ozsoylev

Ozyegin University

Jean-Marc Tallon

Paris School of Economics

Date Written: April 7, 2022

Abstract

We consider financial markets with heterogeneously ambiguous assets and heterogeneously ambiguity averse investors. Investors' preferences, a version of the smooth ambiguity model, are a parsimonious extension of the standard mean-variance framework. We consider, in a unified setting, portfolio choice, and trade upon arrival of public information, and show, in both cases, there are systematic departures from the predictions of standard theory. These departures are of significance as they occur in the direction of empirical regularities that belie the standard theory. In particular, our theory speaks to several puzzling phenomena in a unified fashion: the asset allocation puzzle, the observation that earnings announcements are often followed by significant trading volume with small price change, and that increases in uncertainty are positively associated with increased trading activity and portfolio rebalancing toward safer assets by individual (retail) investors.

Keywords: ambiguity, ambiguity aversion, earnings announcements, parameter uncertainty, portfolio choice, trading volume

JEL Classification: D81, G11, G12

Suggested Citation

Mukerji, Sujoy and Ozsoylev, Han N. and Tallon, Jean-Marc, Trading Ambiguity: A Tale of Two Heterogeneities (April 7, 2022). Available at SSRN: https://ssrn.com/abstract=3290605 or http://dx.doi.org/10.2139/ssrn.3290605

Sujoy Mukerji

Queen Mary University of London ( email )

Mile End
Mile End Road
London, London E1 4NS
United Kingdom

International Centre for Economic Research (ICER)

Villa Gualino
Viale Settimio Severo, 63
10133 Torino
Italy

Han N. Ozsoylev (Contact Author)

Ozyegin University ( email )

Kusbakisi Cd. No: 2
Altunizade, Uskudar
Istanbul, 34662
Turkey

Jean-Marc Tallon

Paris School of Economics ( email )

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