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Prospect Agents and the Feedback Effect on Price Fluctuations


  • Yipeng Yang
  • Allanus Tsoi


A microeconomic approach is proposed to derive the fluctuations of risky asset price, where the market participants are modeled as prospect trading agents. As asset price is generated by the temporary equilibrium between demand and supply, the agents' trading behaviors can affect the price process in turn, which is called the feedback effect. The prospect agents make actions based on their reactions to gains and losses, and as a consequence of the feedback effect, a relationship between the agents' trading behavior and the price fluctuations is constructed, which explains the implied volatility skew and smile observed in actual market.

Suggested Citation

  • Yipeng Yang & Allanus Tsoi, 2013. "Prospect Agents and the Feedback Effect on Price Fluctuations," Papers 1308.6759,, revised Jan 2014.
  • Handle: RePEc:arx:papers:1308.6759

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    References listed on IDEAS

    1. Heemeijer, Peter & Hommes, Cars & Sonnemans, Joep & Tuinstra, Jan, 2009. "Price stability and volatility in markets with positive and negative expectations feedback: An experimental investigation," Journal of Economic Dynamics and Control, Elsevier, vol. 33(5), pages 1052-1072, May.
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    7. Ulrich Horst, 2005. "Financial price fluctuations in a stock market model with many interacting agents," Economic Theory, Springer;Society for the Advancement of Economic Theory (SAET), vol. 25(4), pages 917-932, June.
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    9. Stephen J. Taylor, 1994. "Modeling Stochastic Volatility: A Review And Comparative Study," Mathematical Finance, Wiley Blackwell, vol. 4(2), pages 183-204.
    10. Erhan Bayraktar & Ulrich Horst & Ronnie Sircar, 2007. "Queueing Theoretic Approaches to Financial Price Fluctuations," Papers math/0703832,
    11. Itay Goldstein & Alexander Guembel, 2008. "Manipulation and the Allocational Role of Prices," Review of Economic Studies, Oxford University Press, vol. 75(1), pages 133-164.
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