Bounded rationality, adaptive behaviour, and asset prices

Dongxu Zhao, Kai Li*

*Corresponding author for this work

Research output: Contribution to journalArticlepeer-review

3 Citations (Scopus)

Abstract

This paper develops a simple heterogeneous agent model (HAM) of asset prices with bounded rationality and adaptive behaviour. The model features feedback loop that amplifies shocks and leads to large price fluctuations. Our model not only retains the nonlinear interaction between prices and population in HAMs but also allows for a quantitative comparison with the data. Estimating the model to the data shows that the feedback loop helps explain the large variations in expected returns, such as return predictability and excess volatility.
Original languageEnglish
Article number102037
Pages (from-to)1-14
Number of pages14
JournalInternational Review of Financial Analysis
Volume80
DOIs
Publication statusPublished - Mar 2022

Keywords

  • Bounded rationality
  • Adaptive behaviour
  • Feedback
  • Regime switching
  • Estimation
  • Heterogeneity

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