Market sentiment and heterogeneous agents in an evolutive financial model

F. Cavalli (), Ahmad Naimzada, N. Pecora () and M. Pireddu ()
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F. Cavalli: University of Milano - Bicocca
N. Pecora: Catholic University of Sacred Hearth
M. Pireddu: University of Milano - Bicocca

Journal of Evolutionary Economics, 2021, vol. 31, issue 4, No 5, 1189-1219

Abstract: Abstract We study a financial market populated by heterogeneous agents, whose decisions are driven by “animal spirits”. Each agent may have either correct, optimistic or pessimistic beliefs about the fundamental value, which can change from time to time based on an evolutionary mechanism. The evolutionary selection of beliefs depends on a weighted evaluation of the general market sentiment perceived by the agents and on a profitability measure of the existent strategies. As the relevance given to the sentiment index increases, a herding phenomenon in agent behavior may occur and animal spirits can drive the market toward polarized economic regimes, which coexist and are characterized by persistent high or low levels of optimism and pessimism. This conduct is detectable from agents polarized shares and beliefs, which in turn influence the price level. Such polarized regimes can consist in stable steady states or can be characterized by endogenous dynamics, generating persistent alternating waves of optimism and pessimism, as well as return distributions displaying the typical features of financial time series, such as fat tails, excess volatility and multifractality. Moreover, we show that if the sentiment has no or low relevance on belief selection, those stylized facts are abated or are missing from the simulated time series.

Keywords: Heterogeneous agents; Animal spirits; Behavioral finance; Market sentiment; Herding (search for similar items in EconPapers)
JEL-codes: B52 C62 D84 G41 (search for similar items in EconPapers)
Date: 2021
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DOI: 10.1007/s00191-021-00737-4

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