A Rational Expectations Equilibrium with Informative Trading Volume



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    • Jan Schneider is at the Anderson School of Management, University of California at Los Angeles. I thank Alan Kraus for long discussions and many helpful comments. For helpful suggestions I also thank the editor (Cam Harvey); an anonymous associate editor; two anonymous referees; Adlai Fisher; Yoram Halevy; Anat Admati; as well as seminar participants at the University of British Columbia, University of Alberta, University of Toronto, McGill University, University of Notre Dame, Northwestern University; Indiana University, University of California, Los Angeles; University of Texas at Austin, Texas A&M University, University of Texas at Dallas, Stanford University, and the University of Pennsylvania.


A large number of empirical studies find that trading volume contains information about the distribution of future returns. While these studies indicate that observing volume is helpful to an outside observer of the economy it is not clear how investors within the economy can learn from trading volume. In this paper, I show how trading volume helps investors to evaluate the precision of the aggregate information in the price. I construct a model that offers a closed-form solution of a rational expectations equilibrium where all investors learn from (1) private signals, (2) the market price, and (3) aggregate trading volume.