Ambiguity, Asset Illiquidity, and Price Variability

35 Pages Posted: 5 Sep 2017 Last revised: 21 Mar 2021

Date Written: March 21, 2021


I develop a sequential trading model with ambiguity-averse market makers and provide a theoretical explanation to the historical coincidence of ambiguous events, asset illiquidity, and price variability. My model implies that the bid-ask spread of an asset contains an additive component of ambiguity premium. As a result, higher ambiguity generally leads to lower asset liquidity. More interestingly, asset prices are variable under particular conditions: specifically, only mixed-strategy equilibria exist, such that market makers probabilistically set multiple prices. Further analyses confirm that the implication of price variability is robust to the modelling techniques of ambiguity.

Keywords: Ambiguity Aversion, Ambiguity Premium, Liquidity, Price Variability

JEL Classification: D81, D82 G14, G23, G28

Suggested Citation

Zhou, Tong, Ambiguity, Asset Illiquidity, and Price Variability (March 21, 2021). Available at SSRN: or

Tong Zhou (Contact Author)

ShanghaiTech University ( email )

393 Middle Huaxia Road, Pudong
Shanghai, Shanghai 201210

Do you have a job opening that you would like to promote on SSRN?

Paper statistics

Abstract Views
PlumX Metrics