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Herd Behavior in Financial Markets: An Experiment with Financial Market Professionals

  • Antonio Guarino

    (University College London)

  • Marco Cipriani

    (George Washington University)

We study herd behavior in a laboratory ?nancial market with ?- nancial market professionals. An important novelty of the experi- mental design is the use of a strategy-like method. This allows us to detect herd behavior directly by observing subjects?decisions for all realizations of their private signal. In the paper, we compare two treatments - one in which the price adjusts to the order ?ow in such a way that herding should never occur, and one in which the presence of event uncertainty makes herding possible. In the ?rst treatment, traders herd seldom, in accordance with both the theory and previous experimental evidence on student subjects. A proportion of traders, however, engage in contrarianism, something not accounted for by the theory. In the second treatment, on the one hand, the proportion of herding decisions increases, but not as much as the theory would sug- gest; on the other hand, contrarianism disappears altogether. In both treatments, in contrast with what theory predicts, subjects sometimes prefer to abstain from trading, which a¤ects the process of price discovery negatively.

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Paper provided by ESRC World Economy and Finance Research Programme, Birkbeck, University of London in its series WEF Working Papers with number 0047.

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Date of creation: Feb 2008
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Handle: RePEc:wef:wpaper:0047
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