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Herd behavior and aggregate fluctuations in financial markets

  • Rama CONT

    (Dept of Economics, American University & Centre d'Etudes de Saclay, France)

  • Jean-Philippe BOUCHAUD

    (Centre d'Etudes de Saclay, France and Science & Finance Research Group)

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    We present a simple model of a stock market where a random communication structure between agents gives rise to a heavy tails in the distribution of stock price variations in the form of an exponentially truncated power-law, similar to distributions observed in recent empirical studies of high frequency market data. Our model provides a link between two well-known market phenomena: the heavy tails observed in the distribution of stock market returns on one hand and 'herding' behavior in financial markets on the other hand. In particular, our study suggests a relation between the excess kurtosis observed in asset returns, the market order flow and the tendency of market participants to imitate each other.

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    Paper provided by EconWPA in its series Finance with number 9712008.

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    Length: 29 pages
    Date of creation: 30 Dec 1997
    Date of revision: 30 Dec 1997
    Handle: RePEc:wpa:wuwpfi:9712008
    Note: Type of Document - Postscript; prepared on UNIX Sparc TeX; pages: 29
    Contact details of provider: Web page: http://128.118.178.162

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    18. Muller, Ulrich A. & Dacorogna, Michel M. & Olsen, Richard B. & Pictet, Olivier V. & Schwarz, Matthias & Morgenegg, Claude, 1990. "Statistical study of foreign exchange rates, empirical evidence of a price change scaling law, and intraday analysis," Journal of Banking & Finance, Elsevier, vol. 14(6), pages 1189-1208, December.
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    22. Grinblatt, Mark & Titman, Sheridan & Wermers, Russ, 1995. "Momentum Investment Strategies, Portfolio Performance, and Herding: A Study of Mutual Fund Behavior," American Economic Review, American Economic Association, vol. 85(5), pages 1088-1105, December.
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