Limited participation under ambiguity of correlation and drifts in continuous timeOA

This study investigates how ambiguity surrounding correlation coefficients and drift rates influences individual trading behavior in a continuous-time model.We derive decision-making processes under both risk and ambiguity,demonstrating that non-participation in the market arises from the rational choices of ambiguity-averse naïve investors.The degree of correlation ambiguity between two risky assets determines the equilibrium investment policies of naïve investors.In equilibrium,when the correlation coefficient is sufficiently high,sophisticated investors optimally short the asset with the lower Sharpe ratio while taking a long position in the other.Drift rate ambiguity exerts a downward effect on equilibrium prices.However,its impact on equilibrium positions depends on the relationship between the correlation coefficient and the ratio of the Sharpe ratios of the two risky assets.