The Impact of Heterogeneous Signals on Stock Price Predictability in a Strategic Trade Model

Generalizing the idea that price momentum can be explained by dierent levels of uncertainty inherent in the information structure, we implement signal-specic dierences in uncertainty in a Kyle type model of strategic trading. We derive the equilibrium in a single-auction setting as well as a two-trading-period model. We show that the two-period equilibrium supports price patterns like momentum and reversal/under- and over-reaction without relying on any additional behavioral assumptions. Furthermore, the two-period setting can be extended to a multiple- trading-period equilibrium model with very similar equilibrium conditions to the original sequential auction equilibrium proposed by Kyle (1985), while preserving the price pattern of the two-period model.