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Financial Crises in Efficient Markets: How Fundamentalists Fuel Volatility

Ariane Szafarz

No 10-052, Working Papers CEB from ULB -- Universite Libre de Bruxelles

Abstract: When a financial crisis breaks out, speculators typically get the blame whereas fundamentalists are presented as the safeguard against excessive volatility. This paper proposes an asset pricing model where two types of rational traders coexist: short-term speculators and long-term fundamentalists, both sharing the same information set. In this framework, excess volatility not only exists, but is actually fueled by fundamental trading. Actually, efficient markets are more volatile with a few speculators than with many speculators. Regulators should therefore be aware that efforts to limit speculation might, surprisingly, end up increasing volatility.

Keywords: Efficient Markets; Speculators; Fundamentalists; Crises; Asset Pricing; Rational Expectations; Speculative Bubbles; Liquidity (search for similar items in EconPapers)
JEL-codes: D84 G12 G14 (search for similar items in EconPapers)
Pages: 25 p.
Date: 2010-11
New Economics Papers: this item is included in nep-fmk and nep-mst
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Journal Article: Financial crises in efficient markets: How fundamentalists fuel volatility (2012) Downloads
Working Paper: Financial crises in efficient markets: How fundamentalists fuel volatility (2012)
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