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Super-Exponential Endogenous Bubbles in an Equilibrium Model of Fundamentalist and Chartist Traders

Author

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  • Taisei KAIZOJI

    (International Christian University)

  • Matthias LEISS

    (ETH Zurich)

  • Alexander I. SAICHEV

    (ETH Zurich and Nizhni Novgorod State University)

  • Didier SORNETTE

    (Swiss Finance Institute and ETH Zürich)

Abstract

We introduce a model of super-exponential financial bubbles with two assets (risky and risk-free), in which fundamentalist and chartist traders co-exist. Fundamentalists form expectations on the return and risk of a risky asset and maximize their constant relative risk aversion expected utility with respect to their allocation on the risky asset versus the risk-free asset. Chartists are subjected to social imitation and follow momentum trading. Allowing for random time-varying herding propensity, we are able to reproduce several well-known stylized facts of financial markets such as a fat-tail distribution of returns and volatility clustering. In particular, we observe transient faster-than-exponential bubble growth with approximate log-periodic behavior and give analytical arguments why this follows from our framework. The model accounts well for the behavior of traders and for the price dynamics that developed during the dotcom bubble in 1995-2000. Momentum strategies are shown to be transiently profitable, supporting these strategies as enhancing herding behavior.

Suggested Citation

  • Taisei KAIZOJI & Matthias LEISS & Alexander I. SAICHEV & Didier SORNETTE, 2015. "Super-Exponential Endogenous Bubbles in an Equilibrium Model of Fundamentalist and Chartist Traders," Swiss Finance Institute Research Paper Series 15-07, Swiss Finance Institute.
  • Handle: RePEc:chf:rpseri:rp1507
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    Cited by:

    1. T. T. Chen & B. Zheng & Y. Li & X. F. Jiang, 2017. "New approaches in agent-based modeling of complex financial systems," Papers 1703.06840, arXiv.org.
    2. Andreas Hefti & Steve Heinke & Frédéric Schneider, 2016. "Mental capabilities, trading styles, and asset market bubbles: theory and experiment," ECON - Working Papers 234, Department of Economics - University of Zurich.
    3. Li Lin & Didier Sornette, 2015. ""Speculative Influence Network" during financial bubbles: application to Chinese Stock Markets," Papers 1510.08162, arXiv.org.
    4. repec:eee:phsmap:v:496:y:2018:i:c:p:593-601 is not listed on IDEAS

    More about this item

    Keywords

    financial bubbles; faster-than-exponential growth; social imitation; momentum trading; chartists dotcom bubble;

    JEL classification:

    • C73 - Mathematical and Quantitative Methods - - Game Theory and Bargaining Theory - - - Stochastic and Dynamic Games; Evolutionary Games
    • G01 - Financial Economics - - General - - - Financial Crises
    • G17 - Financial Economics - - General Financial Markets - - - Financial Forecasting and Simulation

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