1. Capital Mobility and Asset
Pricing
– Search Based Model
A three day Seminar by
Prof. Darrell Duffie
Princeton University (Oct 2007)
Excerpts - Valapet Badri
Tried to make this as non-academic as possible
Acknowledgement to Darrell Duffie and all the original researcher

2. Are there Common explanations for ...
FI MARKET - Cross-sectional Price Dispersion in
• Federal funds
• Muni Bonds
• Governtment Bonds
Equity Market - Price behavior during
• Fire sale of equities by Mutual fund
• Listing/Delisting effect on individual stock prices from
S&P 500

3. Search Theory
• Initial search theory was applied to labor market
- conditions when an unemployed would accept an
offer.(Stigler 1961, J Mcall 1970)
• Optimal search for a job depends on
Reservation wage (minimum acceptable wage)
Risk tolerance and Free flow Job Information
availability
Time to wait to take an offer
Greater variance of wages offered (similar to
price dispersion)

4. Capital Markets
• So called “Law of one price”
– Think in terms of price dispersion
– In Ideal Market (Job) the law of one price should be
attainable
• It is typically, one for ask and bid price
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Applying these concepts to markets to
explain capital movement
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5. Market Conditions
• Capital and risk are not perfectly mobile
• Imperfect counter party searches
Hard to locate assets
Trade through intermediation behavior
threaten execution delays, hence convey informational benefits
and market power to dealers and other providers of immediacy.
• Time signature of price responses to supply shocks
gives an indication of search friction
Causes opaqueness and execution delays
• Supply shifts Vs.demand shifts after a loss

6. Search based pricing
I. Capital Mobility
 Low premium markets to high premium markets
 Migration rate is considered Endogenous
 Limitations -
• intermediation costs
• search frictions
 Intensity of capital flows depends on the
premium differential

7. II. Study of Post catastrophe market conditions
 Search Friction, intensity of capital flow
determines behavior.
 Other factors
• Intermediation behavior - dealer
efficiency and spreads
• Variation in liquidity among multiple
assets

8. Search Models
• Several models proposed based on
– Probability of Agent interaction in large/Small sample
sets
– Behavior of agents while bargaining given an outside
option price
– Information available on the market and each other
motives
– Dealer efficiency and spreads
– “Boltzman cross- sectional “ distribution

9. Evidence in Equity Markets
• Equity Market - Price Behavior of Individual Stocks -
Large Markets
• Rebalancing of S&P 500 and price effect on the affected
stock (no longer exists due to hedge, arb opportunity –
countered the impact over time)
• Large "arbitrager" price impacts
• Fire sale of equity by a large mutual fund

10. Evidence in Fixed Income
Markets
• FI Markets Considerably lesser transactions compared
to Equity
- Inherently more susceptible to search friction
• Search and negotiation are critical
• Evidence found in Cross-sectional price dispersion
Federal funds
Muni Bonds
 Governtment Bonds
•Price execution improves with access to counter parties
and deteriorates with time pressure to trade.