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Chasing noise

  • Mendel, Brock
  • Shleifer, Andrei

We present a simple model in which rational but uninformed traders occasionally chase noise as if it were information, thereby amplifying sentiment shocks and moving prices away from fundamental values. In the model, noise traders can have an impact on market equilibrium disproportionate to their size in the market. The model offers a partial explanation for the surprisingly low market price of financial risk in the spring of 2007.

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

Volume (Year): 104 (2012)
Issue (Month): 2 ()
Pages: 303-320

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Handle: RePEc:eee:jfinec:v:104:y:2012:i:2:p:303-320
Contact details of provider: Web page: http://www.elsevier.com/locate/inca/505576

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  1. Leonid Kogan & Stephen Ross, 2004. "The Price Impact and Survival of Irrational Traders," 2004 Meeting Papers 35, Society for Economic Dynamics.
  2. George-Marios Angeletos & Alessandro Pavan, 2007. "Policy with Dispersed Information," NBER Working Papers 13590, National Bureau of Economic Research, Inc.
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  7. 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.
  8. Stein, Jeremy C., 1987. "Informational Externalities and Welfare-Reducing Speculation," Scholarly Articles 3660740, Harvard University Department of Economics.
  9. George-Marios Angeletos & Jennifer La'O, 2009. "Incomplete Information, Higher-Order Beliefs and Price Inertia," NBER Working Papers 15003, National Bureau of Economic Research, Inc.
  10. Grossman, Sanford J & Stiglitz, Joseph E, 1976. "Information and Competitive Price Systems," American Economic Review, American Economic Association, vol. 66(2), pages 246-53, May.
  11. Jeremy C. Stein, 2009. "Presidential Address: Sophisticated Investors and Market Efficiency," Journal of Finance, American Finance Association, vol. 64(4), pages 1517-1548, 08.
  12. Gadi Barlevy & Pietro Veronesi, 2000. "Rational Panics and Stock Market Crashes," CRSP working papers 483, Center for Research in Security Prices, Graduate School of Business, University of Chicago.
  13. Froot, Kenneth A & Scharftstein, David S & Stein, Jeremy C, 1992. " Herd on the Street: Informational Inefficiencies in a Market with Short-Term Speculation," Journal of Finance, American Finance Association, vol. 47(4), pages 1461-84, September.
  14. Allen, Franklin & Gale, Douglas, 1992. "Stock-Price Manipulation," Review of Financial Studies, Society for Financial Studies, vol. 5(3), pages 503-29.
  15. Franklin Allen & Stephen Morris & Hyun Song Shin, 2006. "Beauty Contests and Iterated Expectations in Asset Markets," Review of Financial Studies, Society for Financial Studies, vol. 19(3), pages 719-752.
  16. Wang, Jiang, 1993. "A Model of Intertemporal Asset Prices under Asymmetric Information," Review of Economic Studies, Wiley Blackwell, vol. 60(2), pages 249-82, April.
  17. Kyle, Albert S, 1985. "Continuous Auctions and Insider Trading," Econometrica, Econometric Society, vol. 53(6), pages 1315-35, November.
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