More Hedging Instruments may destablize Markets

William Brock, Cars Hommes and Florian Wagener

No 06-080/1, Tinbergen Institute Discussion Papers from Tinbergen Institute

Abstract: This discussion paper resulted in a publication in the 'Journal of Economic Dynamics & Control' . Volume 33(11), pp. 1912-1928.

This paper formalizes the idea that more hedging instruments may destabilize markets when traders are heterogeneous and adapt their behavior according to experience based reinforcement learning. We investigate three different economic settings, a simple mean-variance asset pricing model, a general equilibrium two-period overlapping generations model with heterogeneous expectations and a noisy rational expectations asset pricing model with heterogeneous information signals. In each setting the introduction of additional Arrow securities can destabilize the market, causing a bifurcation of the steady state to multiple steady states, periodic orbits or even chaotic fluctuations.

Keywords: Asset pricing; hedging; reinforcement learning; nonlinear dynamics; bifurcations (search for similar items in EconPapers)
JEL-codes: D52 D53 D83 D84 G32 (search for similar items in EconPapers)
Date: 2006-09-22, Revised 2008-04-30
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (1)

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Related works:
Journal Article: More hedging instruments may destabilize markets (2009)
Working Paper: More hedging instruments may destabilize markets (2008)
Working Paper: More hedging instruments may destabilize markets (2006)
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Persistent link: https://EconPapers.repec.org/RePEc:tin:wpaper:20060080

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