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| Author: | Wurgler, J. Zhuravskaya, E. |
| Title: | Does Arbitrage Flatten Demand Curves for Stocks? |
| Journal: | Journal of Business
2002 : OCT, VOL. 75:4, p. 583-608 |
| Index terms: | ARBITRAGE DEMAND FUNCTIONS STOCKS MODELS |
| Language: | eng |
| Abstract: | In textbook theory, demand curves for stocks are kept flat by riskless arbitrage between perfect substitutes. In reality, however, individual stocks do not have perfect substitutes. The authors develop a simple model of demand curves for stocks in which the risk inherent in arbitrage between imperfect substitutes deters risk-averse arbitrageurs from flattening demand curves. Consistent with the model, stocks without close substitutes experi- ence higher price jumps upon inclusion into the S&P 500 Index. The results suggest that arbitrage is weaker and mis-pricing is likely to be more frequent and more severe among stocks without close substitutes. The paper provides a substantial list of references on this subject. |
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