A costless, fully revealing signalling equilibrium is derived from two easily understandable conditions. The outsider‐rationality condition states that the outsiders relate the price that they offer to pay for a security inversely to the supply of this security, which they interpret as a quality signal. The no‐arbitrage condition requires that the marginal exchange rate for two securities be the same in both primary and secondary markets. These conditions restrict the firm's financing policy and have strong implications for the valuation of securities and of the total firm. A costless signalling equilibrium is obtained.

In a multiperiod pure exchange world with investors displaying HARA‐preferences, conditions for period‐by‐period application of one‐period asset pricing models are derived first. The future investment opportunity set may be uncertain, provided that in every period a specific market portfolio variable depending on preferences is known as of the preceding date. This variable need not be completely deterministic. Second, conditions for a serially independent market excess return are derived. These conditions render serial independence very unlikely. Hence estimation methods assuming serial independence are likely to yield biased results.

An important determinant of option prices is the elasticity of the pricing kernel used to price all claims in the economy. In this paper, we first show that for a given forward price of the underlying asset, option prices are higher when the elasticity of the pricing kernel is declining than when it is constant. We then investigate the implications of the elasticity of the pricing kernel for the stochastic process followed by the underlying asset. Given that the underlying information process follows a geometric Brownian motion, we demonstrate that constant elasticity of the pricing kernel is equivalent to a Brownian motion for the forward price of the underlying asset, so that the Black–Scholes formula correctly prices options on the asset. In contrast, declining elasticity implies that the forward price process is no longer a Brownian motion: it has higher volatility and exhibits autocorrelation. In this case, the Black–Scholes formula underprices all options.

This paper analyzes the loss allocation to first, second, and third loss positions in European collateralized debt obligation transactions. The quality of the underlying asset pool plays a predominant role for the loss allocation. A lower asset pool quality induces the originator to take a higher first loss position, but, in a synthetic transaction, a smaller third loss position. The share of expected default losses, borne by the first loss position, is largely independent of asset pool quality but lower in securitizations of corporate loans than in those of corporate bonds. Originators with a good rating and low Tobin’s Q prefer synthetic transactions.