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On the survival of overconfident traders in a competitive securities market

  • Hirshleifer, David
  • Luo, Guo Ying

Recent research has proposed several ways in which overconfident traders can persist in competition with rational traders. This paper offers an additional reason: overconfident traders do better than purely rational traders at exploiting mispricing caused by liquidity or noise traders. We examine both the static profitability of overconfident versus rational trading strategies, and the dynamic evolution of a population of overconfident, rational and noise traders. Replication of overconfident and rational types is assumed to be increasing in the recent profitability of their strategies. The main result is that the long-run steady-state equilibrium always involves overconfident traders as a substantial positive fraction of the population.

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Article provided by Elsevier in its journal Journal of Financial Markets.

Volume (Year): 4 (2001)
Issue (Month): 1 (January)
Pages: 73-84

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Handle: RePEc:eee:finmar:v:4:y:2001:i:1:p:73-84
Contact details of provider: Web page: http://www.elsevier.com/locate/finmar

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  1. De Long, J. Bradford & Shleifer, Andrei & Summers, Lawrence H. & Waldmann, Robert J., 1990. "Noise Trader Risk in Financial Markets," Scholarly Articles 3725552, Harvard University Department of Economics.
  2. J. Bradford De Long & Andrei Shleifer & Lawrence H. Summers & Robert J. Waldmann,, . "The Survival of Noise Traders in Financial Markets," J. Bradford De Long's Working Papers _123, University of California at Berkeley, Economics Department.
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  4. Luo, Guo Ying, 1998. "Market Efficiency and Natural Selection in a Commodity Futures Market," Review of Financial Studies, Society for Financial Studies, vol. 11(3), pages 647-74.
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  6. Simon Gervais & Terrance Odean, . "Learning To Be Overconfident," Rodney L. White Center for Financial Research Working Papers 05-97, Wharton School Rodney L. White Center for Financial Research.
  7. Figlewski, Stephen, 1982. " Information Diversity and Market Behavior," Journal of Finance, American Finance Association, vol. 37(1), pages 87-102, March.
  8. Palomino, Frederic, 1996. " Noise Trading in Small Markets," Journal of Finance, American Finance Association, vol. 51(4), pages 1537-50, September.
  9. Benos, Alexandros V., 1998. "Aggressiveness and survival of overconfident traders," Journal of Financial Markets, Elsevier, vol. 1(3-4), pages 353-383, September.
  10. Kyle, Albert S & Wang, F Albert, 1997. " Speculation Duopoly with Agreement to Disagree: Can Overconfidence Survive the Market Test?," Journal of Finance, American Finance Association, vol. 52(5), pages 2073-90, December.
  11. Terrance Odean, 1998. "Volume, Volatility, Price and Profit When All Traders Are Above Average," Finance 9803001, EconWPA.
  12. Kent Daniel & David Hirshleifer & Avanidhar Subrahmanyam, 1998. "Investor Psychology and Security Market Under- and Overreactions," Journal of Finance, American Finance Association, vol. 53(6), pages 1839-1885, December.
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