Heterogeneous Expectations and Speculative Behavior in a Dynamic Multi-Asset Framework

By Carl Chiarella, Roberto Dieci, Xue-zhong He. 2007

128 citations recorded by the source corpus.

Following the framework of a one risky - one riskless asset model developed by Brock and Hommes (1998), this paper considers a discrete-time model of a financial market where heterogeneous groups of agents allocate their wealth amongst multiple risky assets and a riskless asset. Agents follow different expectation formation schemes for both first and second moments of the distribution of returns. Instead of using a Walrasian auctioneer scenario as the market clearing mechanism, a market maker scenario is used. In particular, the paper focuses on the case of two risky assets and two agent types, fundamentalists and trend chasers. Conditions for the stability of the "fundamental" equilibrium are established in terms of the key parameters, in particular the extrapolation rate of the trend chasers and the weight of the two groups in the market. Numerical explorations are performed in order to analyze the combined effect of the interaction between heterogeneous traders and the diversification among multiple risky assets. Particular attention is paid to the effect of the correlation between the risky assets. It turns out that investors' anticipated correlation and portfolio diversification do not always have a stabilizing role, but rather may act as a further source of complexity in the financial market.

Subfields: Economics and Econometrics, Finance

View Paper: https://www.semanticscholar.org/paper/eee7732b4000d3768d3016900e650128aa186514

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Citations in the corpus

Complex Evolutionary Systems in Behavioral Finance (2008, background): “Westerhoff (2004) and Chiarella et al. (2007) considered multi-asset markets, where chartists can switch their investments between different markets for risky assets.”
Time-varying beta: a boundedly rational equilibrium approach (2010, methodology): “This example, which is close in spirit to Chiarella et al. (2005, 2007) , considers two types of agents: fundamentalists (or informed traders), who use information on the ‘fundamental values’, and trend followers (or momentum traders), who”