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Financial Crises in Efficient Markets: How Fundamentalists Fuel Volatility

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  • Ariane Szafarz

Abstract

When a financial crisis breaks out, speculators typically get the blame whereas fundamentalists are presented as the safeguard against excessive volatility. This paper proposes an asset pricing model where two types of rational traders coexist: short-term speculators and long-term fundamentalists, both sharing the same information set. In this framework, excess volatility not only exists, but is actually fueled by fundamental trading. Actually, efficient markets are more volatile with a few speculators than with many speculators. Regulators should therefore be aware that efforts to limit speculation might, surprisingly, end up increasing volatility.

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Bibliographic Info

Paper provided by ULB -- Universite Libre de Bruxelles in its series Working Papers CEB with number 10-052.

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Length: 25 p.
Date of creation: Nov 2010
Date of revision:
Publication status: Published by:
Handle: RePEc:sol:wpaper:2013/67769

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Keywords: Efficient Markets; Speculators; Fundamentalists; Crises; Asset Pricing; Rational Expectations; Speculative Bubbles; Liquidity;

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Citations

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Cited by:
  1. Bernal, Oscar & Herinckx, Astrid & Szafarz, Ariane, 2014. "Which short-selling regulation is the least damaging to market efficiency? Evidence from Europe," International Review of Law and Economics, Elsevier, vol. 37(C), pages 244-256.
  2. Marie Briere & Ariane Chapelle & Ariane Szafarz, 2008. "No contagion, only globalization and flight to quality," DULBEA Working Papers 08-22.RS, ULB -- Universite Libre de Bruxelles.
  3. Lof, Matthijs, 2012. "Rational Speculators, Contrarians and Excess Volatility," MPRA Paper 43490, University Library of Munich, Germany.

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