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Optimality of Securitized Debt with Endogenous and Flexible Information Acquisition

Author

Listed:
  • MING YANG

    (Princeton University)

Abstract
An issuer designs a contract and agents flexibly acquire information when deciding whether to accept it and provide liquidity. Unlike the existing literature, we do not impose any physical restriction on information structure to capture the idea of flexible information acquisition. Facing an informational cost measured by reduction of Shannon's entropy, agents collect the most relevant information that is determined by the "shape" of the contract. Thus in order to reduce the effect of adverse selection, the issuer designs the contract to avoid information acquisition, or induce her counterparty to acquire information least harmful to her interest. Without restricting attention to monotone securities, we show that pooling and tranching (i.e., issuing securitized debt) is uniquely optimal in providing liquidity, regardless of the stochastic interdependence of underlying assets and the allocation of bargaining power.

Suggested Citation

  • Ming Yang, 2011. "Optimality of Securitized Debt with Endogenous and Flexible Information Acquisition," Working Papers 1328, Princeton University, Department of Economics, Econometric Research Program..
    • Handle: RePEc:pri:metric:wp019_2011_yang.pdf
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    References listed on IDEAS

    as
    1. Bruno Biais & Thomas Mariotti, 2005. "Strategic Liquidity Supply and Security Design," The Review of Economic Studies, Review of Economic Studies Ltd, vol. 72(3), pages 615-649.
    2. Innes, Robert D., 1990. "Limited liability and incentive contracting with ex-ante action choices," Journal of Economic Theory, Elsevier, vol. 52(1), pages 45-67, October.
    3. Stephen A. Ross, 1977. "The Determination of Financial Structure: The Incentive-Signalling Approach," Bell Journal of Economics, The RAND Corporation, vol. 8(1), pages 23-40, Spring.
    4. Peter M. DeMarzo, 2005. "The Pooling and Tranching of Securities: A Model of Informed Intermediation," The Review of Financial Studies, Society for Financial Studies, vol. 18(1), pages 1-35.
    5. Nachman, David C & Noe, Thomas H, 1994. "Optimal Design of Securities under Asymmetric Information," The Review of Financial Studies, Society for Financial Studies, vol. 7(1), pages 1-44.
    6. Townsend, Robert M., 1979. "Optimal contracts and competitive markets with costly state verification," Journal of Economic Theory, Elsevier, vol. 21(2), pages 265-293, October.
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    Cited by:

    1. Farhi, Emmanuel & Tirole, Jean, 2015. "Liquid bundles," Journal of Economic Theory, Elsevier, vol. 158(PB), pages 634-655.
    2. André Stenzel & Wolf Wagner, 2022. "Opacity, liquidity and disclosure requirements," Journal of Business Finance & Accounting, Wiley Blackwell, vol. 49(5-6), pages 658-689, May.

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    More about this item

    Keywords

    security design; endogenous and flexible information acquisition; pooling and tranching;
    All these keywords.

    JEL classification:

    • D86 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Economics of Contract Law
    • D82 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Asymmetric and Private Information; Mechanism Design
    • G32 - Financial Economics - - Corporate Finance and Governance - - - Financing Policy; Financial Risk and Risk Management; Capital and Ownership Structure; Value of Firms; Goodwill

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