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THE INCIDENCE OF INFORMATIONAL CASCADES AND THE BEHAVIOR OF TRADE INTERARRIVAL TIMES DURING THE STOCK MARKET BUBBLE

Published online by Cambridge University Press:  12 March 2010

Douglas M. Patterson  and
Vivek Sharma
Douglas M. Patterson*
Affiliation:
Pamplin College of Business, Virginia Tech
Vivek Sharma
Affiliation:
University of Michigan, Dearborn
*
Address correspondence to: Douglas M. Patterson, Department of Finance, Pamplin College of Business, Virginia Tech, Blacksburg, VA 24061, USA; e-mail: amex@vt.edu.
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Abstract

This paper investigates the possible formation of informational cascades by traders in a random sample of 8,000 NYSE stock-days experiencing extreme price changes during 1998–2001. Our cascade measure is designed to detect informational cascades in high-frequency stock market prices. First, we find evidence of cascades on approximately 12% of the days when the NYSE experiences, on average, large price increases. This percentage increases to about 20% on days experiencing large price decreases, on average. Second, we find evidence that the interarrival times of trades in those stocks exhibiting significant informational cascades are generated by a nonlinear stochastic process. Third, the evidence supporting cascades is largely confined to smaller stocks and to stocks followed by fewer security analysts. Last, the occurrence of cascades appears to correlate with the incorporation of fundamental information into security prices.

Keywords

Informational CascadesBubblesNonlinear Stochastic Process
Type
Articles
Information
Macroeconomic Dynamics , Volume 14 , Supplement S1: Nonlinear Time Series , May 2010 , pp. 111 - 136
Copyright
Copyright © Cambridge University Press 2010

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