Critical Market Crashes

By Didier Sornette. 2003

322 citations recorded by the source corpus.

This review is a partial synthesis of the book ``Why stock market crash'' (Princeton University Press, January 2003), which presents a general theory of financial crashes and of stock market instabilities that his co-workers and the author have developed over the past seven years. The study of the frequency distribution of drawdowns, or runs of successive losses shows that large financial crashes are ``outliers'': they form a class of their own as can be seen from their statistical signatures. If large financial crashes are ``outliers'', they are special and thus require a special explanation, a specific model, a theory of their own. In addition, their special properties may perhaps be used for their prediction. The main mechanisms leading to positive feedbacks, i.e., self-reinforcement, such as imitative behavior and herding between investors are reviewed with many references provided to the relevant literature outside the confine of Physics. Positive feedbacks provide the fuel for the development of speculative bubbles, preparing the instability for a major crash. We demonstrate several detailed mathematical models of speculative bubbles and crashes. The most important message is the discovery of robust and universal signatures of the approach to crashes. These precursory patterns have been documented for essentially all crashes on developed as well as emergent stock markets, on currency markets, on company stocks, and so on. The concept of an ``anti-bubble'' is also summarized, with two forward predictions on the Japanese stock market starting in 1999 and on the USA stock market still running. We conclude by presenting our view of the organization of financial markets.

Subfields: Economics and Econometrics, Finance

View Paper: https://www.semanticscholar.org/paper/c74e2be3d700d9c979a98d929fb4dd0aed3ef3ae

How researchers see this paper

The researchers whose trusted networks rank it highest, strongest advocate first. Every researcher gets a different order.

In Economics and Econometrics

In Finance

Citations in the corpus

Bubble Diagnosis and Prediction of the 2005-2007 and 2008-2009 Chinese Stock Market Bubbles (2009, unknown): “The second is the (H, q)-derivative of the logarithmic prices, which has been successfully applied to financial crashes (Zhou and Sornette, 2003b) and critical ruptures (Zhou and Sornette, 2002b) for the detection of log-periodic components.”
The Political Economy of Global Finance: A Network Model (2013, background): “14 Youssefmir, Huberman, and Hogg 1998; de Long et al. 1990; Shiller 2003; Schweitzer et al. 2009; Sornette 2003.”
The role of self-similarity in singularities of partial differential equations (2008, background): “For example, such singular events occur in free-surface flows [59], turbulence and Euler dynamics (singularities of vortex tubes [116, 76] and sheets [47]), elasticity [11], Bose-Einstein condensates [17], non-linear wave physics [117], bacterial growth [84, 24], black-hole cosmology [39, 105], and ”
Forecasting: theory and practice (2020, background): “Sornette (2003) summarises potential causes for crashes and these are computer trading, increased trading in derivatives, illiquidity, trade and budget deficits, and especially, herding behaviour of investors.”