A Dynamic Analysis of Speculation Across Two Markets
AbstractA discrete time model of a financial market is proposed, where the time evolution of asset prices and wealth arises from the interaction of two groups of agents, fundamentalists and chartists. Each group allocates its wealth between a risky asset (stock) and an alternative asset (bond), and the two groups have heterogeneous expectations about returns. We assume that chartists compute expected returns by extrapolating past price changes, while fundamentalists form their expectations on the basis of their superior knowledge of fundamentals. Under the assumption that agents have CRRA utility, investors' optimal demand for each asset depends on their wealth, and this results in growing price and wealth processes. The time evolution of the prices is modeled by assuming the existence of a market maker, who sets excess demand of each asset to zero at the end of each trading period by taking an off-setting long or short position. The market maker is assumed to adjust the price, in each period, partly on the basis of the excess demand and partly according to a particular market stabilization policy. The model is reduced to a high dimensional nonlinear discrete-time dynamical system with growing prices and wealth. Although the model is nonstationary, suitable changes of variables lead to a stationary model where the dynamic variables are actual and expected returns, fundamental/price ratios, and wealth proportions of chartists and fundamentalists. The steady states and other invariant sets of the model are determined, and important global dynamic phenomena are studied via numerical techniques. Stochastic simulations are also performed, that show the ability of the model to generate some of the characteristic features of financial time series.
Download InfoIf you experience problems downloading a file, check if you have the proper application to view it first. In case of further problems read the IDEAS help page. Note that these files are not on the IDEAS site. Please be patient as the files may be large.
Bibliographic InfoPaper provided by Quantitative Finance Research Centre, University of Technology, Sydney in its series Research Paper Series with number 89.
Date of creation: 01 Jan 2003
Date of revision:
This paper has been announced in the following NEP Reports:
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.:
- Day, R. & Huang, W., 1988.
"Bulls, Bears And Market Sheep,"
m8822, Southern California - Department of Economics.
- Xue-Zhong (Tony) He & Carl Chiarella, 2001.
"Asset Price and Wealth Dynamics under Heterogeneous Expectations,"
CeNDEF Workshop Papers, January 2001
5A.2, Universiteit van Amsterdam, Center for Nonlinear Dynamics in Economics and Finance.
- C. Chiarella & X-Z. He, 2001. "Asset price and wealth dynamics under heterogeneous expectations," Quantitative Finance, Taylor & Francis Journals, vol. 1(5), pages 509-526.
- Carl Chiarella & Xue-Zhong He, 2001. "Asset Price and Wealth Dynamics Under Heterogeneous Expectations," Research Paper Series 56, Quantitative Finance Research Centre, University of Technology, Sydney.
- Carl Chiarella, 1992. "The Dynamics of Speculative Behaviour," Working Paper Series 13, Finance Discipline Group, UTS Business School, University of Technology, Sydney.
- S. Baranzoni & P. Bianchi & L. Lambertini, 2000. "Market Structure," Working Papers 368, Dipartimento Scienze Economiche, Universita' di Bologna.
- 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.
- Carl Chiarella & Xue-Zhong He, 1999.
"Heterogeneous Beliefs, Risks and Learning in a Simple Asset Pricing Model,"
Research Paper Series
18, Quantitative Finance Research Centre, University of Technology, Sydney.
- Chiarella, Carl & He, Xue-Zhong, 2002. "Heterogeneous Beliefs, Risk and Learning in a Simple Asset Pricing Model," Computational Economics, Society for Computational Economics, vol. 19(1), pages 95-132, February.
- Xue-Zhong He & Carl Chiarella, 1999. "Heterogeneous Beliefs, Risk and Learning in a Simple Asset-Pricing Model," Computing in Economics and Finance 1999 223, Society for Computational Economics.
- Gaunersdorfer, Andrea, 2000. "Endogenous fluctuations in a simple asset pricing model with heterogeneous agents," Journal of Economic Dynamics and Control, Elsevier, vol. 24(5-7), pages 799-831, June.
- Madhavan, Ananth, 2000. "Market microstructure: A survey," Journal of Financial Markets, Elsevier, vol. 3(3), pages 205-258, August.
- Blume, Lawrence & Easley, David, 1992. "Evolution and market behavior," Journal of Economic Theory, Elsevier, vol. 58(1), pages 9-40, October.
- Lux, Thomas, 1998. "The socio-economic dynamics of speculative markets: interacting agents, chaos, and the fat tails of return distributions," Journal of Economic Behavior & Organization, Elsevier, vol. 33(2), pages 143-165, January.
- William A. Brock & Cars H. Hommes, 1997.
"A Rational Route to Randomness,"
Econometric Society, vol. 65(5), pages 1059-1096, September.
- Madhavan, Ananth & Smidt, Seymour, 1993. " An Analysis of Changes in Specialist Inventories and Quotations," Journal of Finance, American Finance Association, vol. 48(5), pages 1595-1628, December.
- Carl Chiarella & Roberto Dieci & Laura Gardini, 2001. "Speculative Behaviour and Complex Asset Price Dynamics," Research Paper Series 49, Quantitative Finance Research Centre, University of Technology, Sydney.
- Chiarella, Carl & Dieci, Roberto & Gardini, Laura, 2002. "Speculative behaviour and complex asset price dynamics: a global analysis," Journal of Economic Behavior & Organization, Elsevier, vol. 49(2), pages 173-197, October.
For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Duncan Ford).
If references are entirely missing, you can add them using this form.