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Heterogeneity, Profitability and Autocorrelations

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Abstract
This paper contributes to the development of recent literature on the explanation power and calibration issue of heterogeneous asset pricing models by presenting a simple stochastic market fraction asset pricing model of two types of traders (fundamentalists and trend followers) under a market maker scenario. It seeks to explain aspects of financial market behaviour (such as market dominance, under and over-reaction, profitability and survivability) and to characterize various statistical properties (including autocorrelation structure) of the stochastic model by using the the dynamics of the underlying deterministic system, traders? behaviour and market fractions. Statistical analysis based on Monte Carlo simulations shows that the long-run behaviour and convergence of the market prices, long (short)-run profitability of the fundamental (trend following) trading strategy, survivability of chartists, and various under and over-reaction autocorrelation patterns of returns can be characterized by the stability and bifurcations of the underlying deterministic system. Our analysis underpins mechanism on various market behaviour (such as under/over-reactions), market dominance and stylized facts in high frequency financial markets.

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  • Xue-Zhong He & Youwei Li, 2005. "Heterogeneity, Profitability and Autocorrelations," Research Paper Series 147, Quantitative Finance Research Centre, University of Technology, Sydney.
    • Handle: RePEc:uts:rpaper:147
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    File URL: https://www.uts.edu.au/sites/default/files/qfr-archive-02/QFR-rp147.pdf
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    Cited by:

    1. Dieci, Roberto & Foroni, Ilaria & Gardini, Laura & He, Xue-Zhong, 2006. "Market mood, adaptive beliefs and asset price dynamics," Chaos, Solitons & Fractals, Elsevier, vol. 29(3), pages 520-534.
    2. Li, Y. & Donkers, A.C.D. & Melenberg, B., 2006. "The Non- and Semiparametric Analysis of MS Models : Some Applications," Discussion Paper 2006-95, Tilburg University, Center for Economic Research.
    3. Pawe{l} Fiedor, 2013. "Frequency Effects on Predictability of Stock Returns," Papers 1310.5540, arXiv.org, revised Nov 2013.
    4. Chiarella, Carl & Iori, Giulia, 2009. "The impact of heterogeneous trading rules on the limit order book and order flows," Journal of Economic Dynamics and Control, Elsevier, vol. 33(3), pages 525-537.
    5. Ron Bird & Lorenzo Casavecchia & Paolo Pellizzari & Paul Woolley, 2011. "The impact on the pricing process of costly active management and performance chasing clients," Journal of Economic Interaction and Coordination, Springer;Society for Economic Science with Heterogeneous Interacting Agents, vol. 6(1), pages 61-82, May.
    6. Youwei Li & Xue-Zhong He, 2005. "Long Memory, Heterogeneity, and Trend Chasing," Computing in Economics and Finance 2005 113, Society for Computational Economics.
    7. He, Xue-Zhong & Li, Youwei, 2007. "Power-law behaviour, heterogeneity, and trend chasing," Journal of Economic Dynamics and Control, Elsevier, vol. 31(10), pages 3396-3426, October.
    8. Ke, Xiaoling & Shi, Ke, 2009. "Stability and bifurcation in a simple heterogeneous asset pricing model," Economic Modelling, Elsevier, vol. 26(3), pages 680-688, May.

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    More about this item

    Keywords

    asset pricing; heterogeneous beliefs; market fraction; stability; bifurcation; market behaviour; profitability; survivability; autocorrelation;
    All these keywords.

    JEL classification:

    • C15 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods and Methodology: General - - - Statistical Simulation Methods: General
    • D84 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Expectations; Speculations
    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates

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