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Amplification and asymmetry in crashes and frenzies

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  • Han Ozsoylev

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Abstract

We often observe disproportionate reactions to tangible information in large stock price movements. Moreover these movements feature an asymmetry: the number of crashes is more than that of frenzies in the S&P 500 index. This paper offers an explanation for these two characteristics of large movements in which hedging (portfolio insurance) causes amplified price reactions to news and liquidity shocks as well as an asymmetry biased towards crashes. Risk aversion of traders is shown to be essential for the asymmetry of price movements. Also, we show that differential information enhances both amplification and asymmetry delivered by hedging.
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Suggested Citation

  • Han Ozsoylev, 2008. "Amplification and asymmetry in crashes and frenzies," Annals of Finance, Springer, vol. 4(2), pages 157-181, March.
  • Handle: RePEc:kap:annfin:v:4:y:2008:i:2:p:157-181
    DOI: 10.1007/s10436-007-0077-z
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    References listed on IDEAS

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    1. Harrison Hong & Jeremy C. Stein, 2003. "Differences of Opinion, Short-Sales Constraints, and Market Crashes," Review of Financial Studies, Society for Financial Studies, vol. 16(2), pages 487-525.
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    7. Boldrin, Michele & Levine, David K., 2001. "Growth Cycles and Market Crashes," Journal of Economic Theory, Elsevier, vol. 96(1-2), pages 13-39, January.
    8. Veronesi, Pietro, 1999. "Stock Market Overreaction to Bad News in Good Times: A Rational Expectations Equilibrium Model," Review of Financial Studies, Society for Financial Studies, vol. 12(5), pages 975-1007.
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    Cited by:

    1. Yue Peng & Wing Ng, 2012. "Analysing financial contagion and asymmetric market dependence with volatility indices via copulas," Annals of Finance, Springer, vol. 8(1), pages 49-74, February.

    More about this item

    Keywords

    Amplification; Asymmetry; Crash; Frenzy; Hedging; Portfolio insurance; G11; G12;

    JEL classification:

    • G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions
    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates

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