Separating equilibria, underpricing and security design

Dan Bernhardt, Kostas Koufopoulos, Giulio Trigilia

Research output: Contribution to journalArticlepeer-review


Classical security design papers equate competitive capital markets to securities being fairly priced in expectation. We revisit Nachman and Noe's (1994) adverse selection setting, modeling capital market competition as free entry of investors and allowing firms to propose prices for their securities, as happens in private securities placements and bank lending. We identify equilibria in which high types issue underpriced debt, which yields positive expected profits to uninformed lenders, while low types issue steeper securities, such as equity. In addition, pooling equilibria exist in which all firms issue underpriced debt. Introducing pre-existing capital structures provides further foundations for pecking-order theories of external finance.

Original languageEnglish (US)
Pages (from-to)788-801
Number of pages14
JournalJournal of Financial Economics
Issue number3
StatePublished - Sep 2022


  • Adverse selection
  • Positive profits
  • Security design
  • Underpricing

ASJC Scopus subject areas

  • Accounting
  • Finance
  • Economics and Econometrics
  • Strategy and Management


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