Uncertainty and volatility in capital markets

A consolidated research program in Financial Economics investigates how capital markets uncertainty affects markets developments and how these very same developments could feed back to further uncertainty. Uncertainty itself may have varying degrees of depth. To illustrate, the effects of uncertainty around an earning announcement for a blue chip are likely different from those regarding an uncertainty event such as September-11. How do markets respond to such large events? Answering this question necessitates designing and elaborating on a set of assumptions about how markets operate in terms of their trading structure, the agents' access to information, and the asset classes that are the most likely exposed to uncertainty episodes. Most of the work in the literature addresses these issues while maintaining the assumption that capital markets operate under conditions of symmetric information. My research plans build on previous work of mine in which, instead, I deal with markets with asymmetric information while at the same time relaxing what is arguably one of our most standard assumptions: that uncertainty can be quantified probabilistically. My work, then, is an attempt at merging two fields: one, relating to the study of markets with asymmetric information and another, relating to the study of markets in which agents face "Knightian uncertainty," that is, the situation in which we would not be even able to determine what the likelihood of events is, just as in the case of September-11. But my work on uncertainty also regards themes that have a quite applied nature: how can financial economists help investors design new instruments to cope with capital market volatility? Both theory and applied work have led me to a consistent publication record in these domains and to establish a coherent research plan for the next three years. My applied work also led to the adoption of new standards for measuring and trading volatility on an institutional basis in industry-wide applications, as I shall explain in more detail below. In my research agenda in the theory space, I aim to examine in great detail how markets respond to large uncertainty events, and also to consolidate my work on asymmetric information and heterogeneous agents in markets plagued with Knightian uncertainty. In my research agenda in the applied space, I aim to develop models that help mitigate investors' losses arising from capital market volatility, relying on my previous work on "tradable uncertainty" that has been adopted in industry-wide applications.