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- Title
Equilibrium Consequences of Indexing.
- Authors
Bond, Philip; García, Diego
- Abstract
We develop a benchmark model to study the equilibrium consequences of indexing in a standard rational expectations setting. Individuals incur costs to participate in financial markets, and these costs are lower for individuals who restrict themselves to indexing. A decline in indexing costs directly increases the prevalence of indexing, thereby reducing the price efficiency of the index and augmenting relative price efficiency. In equilibrium, these changes in price efficiency in turn further increase indexing, and raise the welfare of uninformed traders. For well-informed traders, the share of trading gains stemming from market timing increases relative to stock selection trades.
- Subjects
FINANCIAL equilibrium (Economics); BENCHMARKING (Management); RATIONAL expectations (Economic theory); FINANCIAL markets; INDEXATION (Economics); ECONOMIC efficiency; PRICE maintenance; MARKET timing
- Publication
Review of Financial Studies, 2022, Vol 35, Issue 7, p3175
- ISSN
0893-9454
- Publication type
Article
- DOI
10.1093/rfs/hhab106