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Herd Behaviour, Bubbles and Crashes

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  • Lux, Thomas

Abstract

This paper attempts to formalize herd behavior or mutual mimetic contagion in speculative markets. The emergence of bubbles is explained as a self-organizing process of infection among traders leading to equilibrium prices which deviate from fundamental values. It is postulated furthermore that the speculators' readiness to follow the crowd depends on one basic economic variable, namely actual returns. Above average returns are reflected in a generally more optimistic attitude that fosters the disposition to overtake others' bullish beliefs and vice versa. This economic influence makes bubbles transient phenomena and leads to repeated fluctuations around fundamental values. Copyright 1995 by Royal Economic Society.

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  • Lux, Thomas, 1995. "Herd Behaviour, Bubbles and Crashes," Economic Journal, Royal Economic Society, vol. 105(431), pages 881-896, July.
  • Handle: RePEc:ecj:econjl:v:105:y:1995:i:431:p:881-96
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    References listed on IDEAS

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    1. Gennotte, Gerard & Leland, Hayne, 1990. "Market Liquidity, Hedging, and Crashes," American Economic Review, American Economic Association, vol. 80(5), pages 999-1021, December.
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    3. De Long, J Bradford & Shleifer, Andrei & Summers, Lawrence H & Waldmann, Robert J, 1991. "The Survival of Noise Traders in Financial Markets," The Journal of Business, University of Chicago Press, vol. 64(1), pages 1-19, January.
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    5. De Long, J Bradford & Andrei Shleifer & Lawrence H. Summers & Robert J. Waldmann, 1990. "Noise Trader Risk in Financial Markets," Journal of Political Economy, University of Chicago Press, vol. 98(4), pages 703-738, August.
    6. Scharfstein, David S & Stein, Jeremy C, 1990. "Herd Behavior and Investment," American Economic Review, American Economic Association, vol. 80(3), pages 465-479, June.
    7. Topol, Richard, 1991. "Bubbles and Volatility of Stock Prices: Effect of Mimetic Contagion," Economic Journal, Royal Economic Society, vol. 101(407), pages 786-800, July.
    8. Weidlich, Wolfgang & Braun, Martin, 1992. "The Master Equation Approach to Nonlinear Economics," Journal of Evolutionary Economics, Springer, vol. 2(3), pages 233-265, October.
    9. Carl Chiarella, 1992. "The Dynamics of Speculative Behaviour," Working Paper Series 13, Finance Discipline Group, UTS Business School, University of Technology, Sydney.
    10. Robert Shiller, 1988. "Portfolio Insurance and Other Investor Fashions as Factors in the 1987 Stock Market Crash," NBER Chapters, in: NBER Macroeconomics Annual 1988, Volume 3, pages 287-297, National Bureau of Economic Research, Inc.
    11. Poterba, James M. & Summers, Lawrence H., 1988. "Mean reversion in stock prices : Evidence and Implications," Journal of Financial Economics, Elsevier, vol. 22(1), pages 27-59, October.
    12. West, Kenneth D, 1988. " Bubbles, Fads and Stock Price Volatility Tests: A Partial Evaluation," Journal of Finance, American Finance Association, vol. 43(3), pages 639-656, July.
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