Asset Pricing in the Quest for the New El Dorado
Creative destruction not only involves bringing new technology to market, it imposes higher risk on the future of existing assets. We characterize the asset pricing implications of creative destruction when investors compete for market share. Compared to the social optimum, the quest for oligopoly rents leads to over-investment in uncertain projects, spikes in asset prices and risk premia, and an aftermath in which prices fall steeply as uncertainty resolves. These pricing patterns resemble a bubble ex post, but arise solely from competitive behavior and do not require information asymmetry, behavioral biases, or financial frictions. Our analysis yields novel empirical predictions and we discuss how financial innovation might be used to predict bubbles ex ante.
We are grateful to Tony Bernardo, Murray Carlson, Lorenzo Garlappi, Mark Huson, Francis Longstaff, Stavros Panageas, Jeff Pontiff, Andrei Shleifer, and Avanidhar Subrahmanyam for their comments and input. The views expressed herein are those of the authors and do not necessarily reflect the views of the National Bureau of Economic Research.