Page info: *Author:Mathiesen, H. *Document version:2.5. *Copyright 1997-2019, H. Mathiesen.Legal notice. 


Exhibition: Why the equilibrium stock price is fluctuating


Introduction: Click the links on or below the figure for more information. The figure illustrates that when the cost of estimating fundamental corporate value is significant then the stock price needs to be fluctuating around that value in order to provide incentives for informed investors to enter the market. This is important, because without informed investors the stock price would be arbitrary and unable to allocate resources efficiently. Fortunately, this scenario would never come true because in this case the informed investors would earn higher returns than the uninformed. This is so because informed investors are more able to sell stocks when they are overvalued and to buy when they are undervalued. On the other hand, if the stock market were composed entirely of highly informed investors the stock price would be equal to its true fundamental value. Unfortunately, this would never happen, because in that case it would be possible to make more money as an uninformed investor because the money spend on estimating fundamental value could be saved. As a result of this dynamics the long-term stock price fluctuates around its fundamental value with intensity that makes all investment strategies (from the uninformed to the highly informed) equally profitable. These ideas are fully consistent with those presented by Grossman and Stiglitz [1976, 1980], and Cornell and Roll [1981]. The first version of this illustration was made by H. Mathiesen [1996, chapter 4].


Note: All bold text in figure below can be clicked to obtain more information (Ifyou canít click here).



-Copyright 1997-2019, H. Mathiesen. Reproduced with permission of the copyright owner. Further reproduction prohibited without permission.Legal notice.