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Dynamic instability in generic model of multi-assets markets

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  • Marsili, Matteo
  • Raffaelli, Giacomo
  • Ponsot, Benedicte
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    Abstract

    We introduce a generic model of a multi-asset financial market, which takes into account the impact of portfolio investment on price dynamics. This captures the fact that financial correlation determine the optimal portfolio but are affected by investment based on it. We show that, under very general conditions, such a feedback on correlations gives rise to an instability when the volume of investment exceeds a critical value. Close to the critical point the model exhibits dynamical correlations very similar to those observed in empirical data.

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    Bibliographic Info

    Article provided by Elsevier in its journal Journal of Economic Dynamics and Control.

    Volume (Year): 33 (2009)
    Issue (Month): 5 (May)
    Pages: 1170-1181

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    Handle: RePEc:eee:dyncon:v:33:y:2009:i:5:p:1170-1181

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    Web page: http://www.elsevier.com/locate/jedc

    Related research

    Keywords: Excess comovement Correlation Portfolio theory Dynamic instability;

    References

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    1. M. Potters & J. P. Bouchaud & L. Laloux, 2005. "Financial Applications of Random Matrix Theory: Old Laces and New Pieces," Papers physics/0507111, arXiv.org.
    2. S. Drozdz & J. Kwapien & F. Gruemmer & F. Ruf & J. Speth, 2001. "Quantifying dynamics of the financial correlations," Papers cond-mat/0102402, arXiv.org.
    3. Farmer, J. Doyne & Joshi, Shareen, 2002. "The price dynamics of common trading strategies," Journal of Economic Behavior & Organization, Elsevier, vol. 49(2), pages 149-171, October.
    4. Drożdż, S. & Kwapień, J. & Grümmer, F. & Ruf, F. & Speth, J., 2001. "Quantifying the dynamics of financial correlations," Physica A: Statistical Mechanics and its Applications, Elsevier, vol. 299(1), pages 144-153.
    5. Chiarella, C. & He, X.-Z. & Hommes, C.H., 2004. "A Dynamic Analysis of Moving Average Rules," CeNDEF Working Papers 04-14, Universiteit van Amsterdam, Center for Nonlinear Dynamics in Economics and Finance.
    6. Giacomo Raffaelli & Matteo Marsili, 2005. "Dynamic instability in a phenomenological model of correlated assets," Papers physics/0508159, arXiv.org, revised Apr 2006.
    7. BAUWENS, Luc & LAURENT, Sébastien & ROMBOUTS, Jeroen VK, . "Multivariate GARCH models: a survey," CORE Discussion Papers RP -1847, Université catholique de Louvain, Center for Operations Research and Econometrics (CORE).
    8. Peter Bank & Dietmar Baum, 2004. "Hedging and Portfolio Optimization in Financial Markets with a Large Trader," Mathematical Finance, Wiley Blackwell, vol. 14(1), pages 1-18.
    9. Kondor, Imre & Pafka, Szilard & Nagy, Gabor, 2007. "Noise sensitivity of portfolio selection under various risk measures," Journal of Banking & Finance, Elsevier, vol. 31(5), pages 1545-1573, May.
    10. Alessio Caldarera & Celso Brunetti, 2005. "Asset Prices and Asset Correlations in Illiquid Markets," 2005 Meeting Papers 288, Society for Economic Dynamics.
    11. Kirchler, Michael & Huber, Jurgen, 2007. "Fat tails and volatility clustering in experimental asset markets," Journal of Economic Dynamics and Control, Elsevier, vol. 31(6), pages 1844-1874, June.
    12. Engle, Robert, 2002. "Dynamic Conditional Correlation: A Simple Class of Multivariate Generalized Autoregressive Conditional Heteroskedasticity Models," Journal of Business & Economic Statistics, American Statistical Association, vol. 20(3), pages 339-50, July.
    13. Christian Borghesi & Matteo Marsili & Salvatore Miccich\`e, 2007. "Emergence of time-horizon invariant correlation structure in financial returns by subtraction of the market mode," Papers physics/0702106, arXiv.org.
    14. Pindyck, Robert S & Rotemberg, Julio J, 1993. "The Comovement of Stock Prices," The Quarterly Journal of Economics, MIT Press, vol. 108(4), pages 1073-1104, November.
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    Cited by:
    1. Giacomo Livan & Jun-ichi Inoue & Enrico Scalas, 2012. "On the non-stationarity of financial time series: impact on optimal portfolio selection," Papers 1205.0877, arXiv.org, revised Jul 2012.
    2. Carl Chiarella & Roberto Dieci & Xue-Zhong He & Kai Li, 2012. "An Evolutionary CAPM Under Heterogeneous Beliefs," Research Paper Series 315, Quantitative Finance Research Centre, University of Technology, Sydney.

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