Prospect Theory in the Heterogeneous Agent Model

Jan Polach () and Jiri Kukacka
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Jan Polach: Moody’s Analytics UK Ltd

Journal of Economic Interaction and Coordination, 2019, vol. 14, issue 1, No 6, 147-174

Abstract: Abstract Using the Heterogeneous Agent Model framework, we incorporate an extension based on Prospect Theory into a popular agent-based asset pricing model. This extension covers the phenomenon of loss aversion manifested in risk aversion and asymmetric treatment of gains and losses. Using Monte Carlo methods, we investigate behavior and statistical properties of the extended model and assess how our extension is manifested in different strategies. We show that, on the one hand, the Prospect Theory extension keeps the essential underlying mechanics of the model intact, but on the other hand it considerably changes the model dynamics. Stability of the model is increased and fundamentalists may be able to survive in the market more easily. When only the fundamentalists are loss-averse, other strategies profit more.

Keywords: Heterogeneous Agent Model; Prospect Theory; Behavioral finance; Stylized facts (search for similar items in EconPapers)
Date: 2019
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Citations: View citations in EconPapers (6)

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Working Paper: Prospect Theory in the Heterogeneous Agent Model (2016)
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DOI: 10.1007/s11403-018-0219-6

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