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Herd behavior and aggregate fluctuations in financial markets

Author

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  • Rama CONT

    (Dept of Economics, American University & Centre d'Etudes de Saclay, France)

  • Jean-Philippe BOUCHAUD

    (Centre d'Etudes de Saclay, France and Science & Finance Research Group)

Abstract

We present a simple model of a stock market where a random communication structure between agents gives rise to a heavy tails in the distribution of stock price variations in the form of an exponentially truncated power-law, similar to distributions observed in recent empirical studies of high frequency market data. Our model provides a link between two well-known market phenomena: the heavy tails observed in the distribution of stock market returns on one hand and 'herding' behavior in financial markets on the other hand. In particular, our study suggests a relation between the excess kurtosis observed in asset returns, the market order flow and the tendency of market participants to imitate each other.

Suggested Citation

  • Rama CONT & Jean-Philippe BOUCHAUD, 1997. "Herd behavior and aggregate fluctuations in financial markets," Finance 9712008, University Library of Munich, Germany, revised 06 Jan 1998.
  • Handle: RePEc:wpa:wuwpfi:9712008
    Note: Type of Document - Postscript; prepared on UNIX Sparc TeX; pages: 29
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    References listed on IDEAS

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    3. Maslov, Sergei & Mills, Mark, 2001. "Price fluctuations from the order book perspective—empirical facts and a simple model," Physica A: Statistical Mechanics and its Applications, Elsevier, vol. 299(1), pages 234-246.

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    More about this item

    Keywords

    Stock market; random graphs; market organization; herding; heavy tails..;
    All these keywords.

    JEL classification:

    • D84 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Expectations; Speculations
    • E32 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Business Fluctuations; Cycles
    • G19 - Financial Economics - - General Financial Markets - - - Other

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