A Simple Model of Volatility Fluctuations in Asset Markets
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The main purpose of this paper is to exhibit a simple financial model in which the volatility of the asset prices fluctuates. Volatilities of the market prices in the model of this paper fluctuates as the market state wanders acyclically between two basins of attractions. To establish this fact, we use a share market, that is, a market in which shares of a single financial asset are traded among a large number of agents. Agents are assumed to be of one of several types, by associating agent types with the strategies or trading rules they employ.
Changes in types by agents, as well as entries and exists of agents of var-ious types are modeled stochatically as a continous-time Markov process. By showing the circumstances under which two clusters or subgroups of agents— one on each side of the market— are dominant in influencing the market prices, we show that the share market with two types of agents are such that volatilities of the share prices fluctuate between two values.
KeywordsShare Market Business Cycle Transition Rate Large Cluster Share Price
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