The Journal of Finance publishes leading research across all the major fields of finance. It is one of the most widely cited journals in academic finance, and in all of economics. Each of the six issues per year reaches over 8,000 academics, finance professionals, libraries, and government and financial institutions around the world. The journal is the official publication of The American Finance Association, the premier academic organization devoted to the study and promotion of knowledge about financial economics.
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The Size and Incidence of the Losses from Noise Trading
Published: 07/01/1989 | DOI: 10.1111/j.1540-6261.1989.tb04385.x
J. BRADFORD DE LONG, ANDREI SHLEIFER, LAWRENCE H. SUMMERS, ROBERT J. WALDMANN
Recent empirical research has identified a significant amount of volatility in stock prices that cannot easily be explained by changes in fundamentals; one interpretation is that asset prices respond not only to news but also to irrational “noise trading.” We assess the welfare effects and incidence of such noice trading using an overlapping‐generations model that gives investors short horizons. We find that the additional risk generated by noise trading can reduce the capital stock and consumption of the economy, and we show that part of that cost may be borne by rational investors. We conclude that the welfare costs of noise trading may be large if the magnitude of noise in aggregate stock prices is as large as suggested by some of the recent empirical litrature on the excess volatility of the market.
Positive Feedback Investment Strategies and Destabilizing Rational Speculation
Published: 06/01/1990 | DOI: 10.1111/j.1540-6261.1990.tb03695.x
J. BRADFORD DE LONG, ANDREI SHLEIFER, LAWRENCE H. SUMMERS, ROBERT J. WALDMANN
Analyses of rational speculation usually presume that it dampens fluctuations caused by “noise” traders. This is not necessarily the case if noise traders follow positive‐feedback strategies—buy when prices rise and sell when prices fall. It may pay to jump on the bandwagon and purchase ahead of noise demand. If rational speculators' early buying triggers positive‐feedback trading, then an increase in the number of forward‐looking speculators can increase volatility about fundamentals. This model is consistent with a number of empirical observations about the correlation of asset returns, the overreaction of prices to news, price bubbles, and expectations.