Path-Dependent Behavior with Asymmetric Information about Traders' Types
AbstractWe define path-dependency as the generic phenomenon according to which agents take an action regardless of their private information. Path-dependency can be of two types contingent on whether agents act with the crowd (herding) or against the crowd (contrarianism). We consider a quote-driven market where traders can in some cases observe whether their predecessors were informed, although they cannot observe their private information, while in other cases they are left with the uncertainty that their predecessors acted purely for liquidity motives. In this setting we recover herding and contrarianism and we find that better-informed markets (i.e. where informed traders receive high precision signals) can generate path-dependent behavior more easily than poorly informed ones. Moreover, we illustrate how a market dominated by herding features a price that is more informative of the asset value than the price of a market where traders always follow their signal. We also discuss how contrarianism has the exact opposite effect by decreasing price informativeness.
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Bibliographic InfoPaper provided by Free University of Berlin, Humboldt University of Berlin, University of Bonn, University of Mannheim, University of Munich in its series Discussion Paper Series of SFB/TR 15 Governance and the Efficiency of Economic Systems with number 388.
Date of creation: 29 Jul 2012
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More information through EDIRC
Herding; Contrarianism; Financial Markets;
Find related papers by JEL classification:
- D82 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Asymmetric and Private Information; Mechanism Design
- D83 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Search, Learning, and Information
- G14 - Financial Economics - - General Financial Markets - - - Information and Market Efficiency; Event Studies; Insider Trading
This paper has been announced in the following NEP Reports:
- NEP-ALL-2012-10-13 (All new papers)
- NEP-CBE-2012-10-13 (Cognitive & Behavioural Economics)
- NEP-CTA-2012-10-13 (Contract Theory & Applications)
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
- Avery, Christopher & Zemsky, Peter, 1998. "Multidimensional Uncertainty and Herd Behavior in Financial Markets," American Economic Review, American Economic Association, vol. 88(4), pages 724-48, September.
- Park, A. & Sabourian, H., 2009.
"Herding and Contrarian Behaviour in Financial Markets,"
Cambridge Working Papers in Economics
0939, Faculty of Economics, University of Cambridge.
- Andreas Park & Hamid Sabourian, 2011. "Herding and Contrarian Behavior in Financial Markets," Econometrica, Econometric Society, vol. 79(4), pages 973-1026, 07.
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