Title

A Bayesian approach to excess volatility, short-term underreaction and long-term overreaction during financial crises

Document Type

Journal article

Source Publication

North American Journal of Economics and Finance

Publication Date

11-1-2017

Volume

42

First Page

346

Last Page

358

Publisher

Elsevier Inc.

Keywords

Bayesian model, Excess volatility, Financial crises, Magnitude effects, Representative and conservative heuristics, Underreaction and overreaction

Abstract

In this paper, we introduce a new Bayesian approach to explain some market anomalies during financial crises and subsequent recovery. We assume that the earnings shock of an asset follows a random walk model with and without drift to incorporate the impact of financial crises. We further assume the earning shock follows an exponential family distribution to accommodate symmetric as well as asymmetric information. By using this model setting, we develop some properties on the expected earnings shock and its volatility, and establish properties of investor behavior on the stock price and its volatility during financial crises and the subsequent recovery. Thereafter, we develop properties to explain excess volatility, short-term underreaction, long-term overreaction, and their magnitude effects during financial crises and the subsequent recovery. We also explain why behavioral finance theory could be used to explain many of the asset pricing anomalies, but traditional asset pricing models cannot achieve this aim.

DOI

10.1016/j.najef.2017.08.001

Print ISSN

10629408

E-ISSN

18790860

Funding Information

The research is partially supported by the Fundamental Research Funds for the Central Universities, China Postdoctoral Science Foundation (2017M610058), National Natural Science Foundation of China (11601227, 11626130), and by grants from Asia University, Hang Seng Management College, Lingnan University, and Research Grants Council of Hong Kong, Australian Research Council and National Science Council, Ministry of Science and Technology (MOST), Taiwan. {2017M610058, 11601227, 11626130}

Publisher Statement

Copyright © 2017. Access to external full text or publisher's version may require subscription.

Full-text Version

Publisher’s Version

Language

English

Recommended Citation

Guo, X., Mcaleer, M., Wong, W.-K., & Zhu, L. (2017). A Bayesian approach to excess volatility, short-term underreaction and long-term overreaction during financial crises. North American Journal of Economics and Finance, 42, 346-358. doi: 10.1016/j.najef.2017.08.001

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