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Impact of information cost and switching of trading strategies in an artificial stock market

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  • Yi-Fang Liu
  • Chao Xu
  • Wei Zhang
  • J{\o}rgen Vitting Andersen
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    Abstract

    This paper studies the switching of trading strategies and the effect it can have on the market volatility in a continuous double auction market. We describe the behavior when some uninformed agents, who we call switchers, decide whether or not to pay for information before they trade. By paying for the information they behave as informed traders. First we verify that our model is able to reproduce some of the typical properties (stylized facts) of real financial markets. Next we consider the relationship between switching and the market volatility under different structures of investors. We find that the returns of all the uninformed agents are negatively related to the percentage of switchers in the market. In addition, we find that the market volatility is higher with the presence of switchers in the market and that there exists a positive relationship between the market volatility and the percentage of switchers. We therefore conclude that the switchers are a destabilizing factor in the market. However, for a given fixed percentage of switchers, the proportion of switchers that decide to switch at a given moment of time is negatively related to the current market volatility. In other words, if more agents pay for information to know the fundamental value at some time, the market volatility will be lower. This is because the market price is closer to the fundamental value due to information diffusion between switchers.

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    File URL: http://arxiv.org/pdf/1311.4274
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    Bibliographic Info

    Paper provided by arXiv.org in its series Papers with number 1311.4274.

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    Date of creation: Nov 2013
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    Handle: RePEc:arx:papers:1311.4274

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    16. repec:att:wimass:9621 is not listed on IDEAS
    17. Brock, William A. & Hommes, Cars H., 1998. "Heterogeneous beliefs and routes to chaos in a simple asset pricing model," Journal of Economic Dynamics and Control, Elsevier, vol. 22(8-9), pages 1235-1274, August.
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