Nonlinearities, Herd Behaviour and Market Illiquidity: Evidence from Montenegro?
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Abstract
Research in Finance has shown that herd behaviour is associated with nonlinear dynamics in both developed and emerging stock markets. However the latter are characterized by thin trading which has been found to amplify nonlinearities in returns by enhancing their serial dependence. If so, then the association between herding and nonlinearities may be subject to the thin trading bias. As this issue has never explored before, we investigate this in the context of the New Securities Stock Exchange of Montenegro. Results indicate that correcting for thin trading bears a notable impact upon the observed nonlinearities, yet not the estimated herding, which appears insignificant in all test.
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References
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Siriopoulos, C., Tsotsos, R. and Karagianni, S. (2001), “The Impact of Non Linearities, Thin Trading and Regulatory Changes in the Efficiency of an Emerging Capital Market”, The Journal of Applied Business Research, Vol. 17, No. 4, pp. 81-92
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Solibakke, P.B. (2001), “Efficiently ARMA-GARCH estimated trading volume characteristics in thinly traded markets”, Applied Financial Economics, Vol. 11, No. 5, pp. 539-556.
Solibakke, P.B. (2005), “Non-linear Dependence and Conditional Heteroscedasticity in Stock Returns. Evidence from the Norwegian Thinly Traded Equity Market”, European Journal of Finance, Vol. 11, No. 2, pp. 111-136
Voronkova, S. and Bohl, M.T. (2005), “Institutional Traders’ Behaviour in an Emerging Stock Market: Empirical Evidence on Polish Pension Fund Investors”, Journal of Business, Finance and Accounting, 32(7) and (8), pp. 1537-1560.
Wagner, F. (2003), “Volatility Cluster and Herding”, Physica A, Volume 322, pp. 607-619.
Xie, Y., W., B-H, Quan, H., Yang, W. and Hui, P.M. (2002), “Finite-size Effect in the Equíluz and Zimmerman Model of Herd Formation and Information Transmission”, Physical Review E, Vol. 65, 046130-1-6.
Banerjee, A. V. (1992), “A Simple Model of Herd Behavior”, The Quarterly Journal of Economics, Vol. CVII, Issue 3, pp. 797-817.
Bikhchandani, S., Hirshleifer, D. and Welch, I. (1992), “A Theory of Fads, Fashion, Custom, and Cultural Change as Informational Cascades”, Journal of Political Economy, Vol. 100, No. 5, pp. 992-1026.
Caparrelli, F., D’Arcangelis, A.M. and Cassuto, A. (2004), “Herding in the Italian Stock Market: A Case of Behavioral Finance”, Journal of Behavioral Finance, Vol. 5, No. 4, pp. 222-230.
Caporale, G.M., Economou, F. and Philippas, N. (2008), “Herd Behaviour in Extreme Market Conditions: Evidence from the Athens Stock Exchange”, Economics Bulletin, Vol. 7, No. 17, pp. 1-13.
Chang, E.C., Cheng, J.W. and Khorana, A. (2000), “An Examination of Herd Behaviour in Equity Markets: An International Perspective”, Journal of Banking and Finance, Vol. 24, pp. 1651-1679
Cont, R. and Bouchaud, J-P. (2000), “Herd Behavior and Aggregate Fluctuations in Financial Markets”, Macroeconomic Dynamics, Vol. 4, pp. 170-196.
De Bondt, W. F. M. and Teh, L. L. (1997), “Herding Behavior and Stock Returns : An Exploratory Investigation”, Swiss Journal of Economics and Statistics, Vol. 133 (2/2), pp. 293-324
Devenow, A. and Welch, I. (2004), “Rational Herding in Financial Economics”, European Economic Review, 40, pp. 603-615
Eguíluz, V. M. and Zimmermann M. G. (2000),“Transmission of Information and Herd Behavior: An Application to Financial Markets”, Physica Review Letters, Vol. 85, pp. 5659-5662.
Gleason, K. C., Mathur, I. and Peterson, M. A. (2004), “Analysis of Intraday Herding Behaviour Among the Sector ETFs”, Journal of Empirical Finance, Vol. 11, pp. 681-694.
Graham, J.R. (1999), “Herding Among Investment Newsletters: Theory and Evidence”, Journal of Finance, Vol. LIV, No. 1, pp. 237-268
Henker, J., T. Henker and Mitsios, A. (2006), “Do Investors Herd Intraday in Australian Equities?”, International Journal of Managerial Finance, Vol. 2, No. 3, pp. 196-219 (24).
Hirshleifer, D. (2001), “Investor Psychology and Asset Pricing”, Journal of Finance, Vol. LVI, No4
Hirshleifer, D. and Teoh, S.T. (2003), “Herd Behaviour and Cascading in Capital Markets: A Review and Synthesis”, European Financial Management Journal, Vol. 9, No. 1, pp. 25-66
Kominek, Z. (2006), “Regulatory Induced Herding? Evidence from Polish Pension Funds”, Working Paper No. 96, European Bank for Reconstruction and Development.
Lo, A. W. and MacKinlay, A.C. (1990), “Stock Market Prices do not Follow Random Walks: Evidence from a Simple Specification Test”, Review of Financial Studies, Vol. 1, pp. 41-66.
Lux, T. (1995), “Herd Behaviour, Bubbles and Crashes”, The Economic Journal, Vol. 105, pp. 881-896.
Lux, T. and Marchesi, M. (1999), “Scaling and Criticality in a Stochastic Multi-Agent Model of a Financial Market”, Nature, Vol. 397, pp. 498-500.
Miller, M.H., Muthuswamy, J. and Whaley, R.E. (1994), “Mean Reversion of Standard and Poor 500 Index Basis Changes: Arbitrage-Induced or Statistical Illusion?”, Journal of Finance, Vol. 49, pp. 479-513
Olivares, J. A. (2003), “Investment Behavior of the Chilean Pension Funds”, Working Paper, The University of Texas at Austin. Presented at Financial Management Association Conference, New Orleans, LA, October 6-9, 2004. Available at: http://www2.udec.cl/fcea_eco/papers/seminarios/s2005_06.pdf
Popović, s. (2004), “The Role of the Capital Market in the Transition of the Montenegrin Economy”, South-East Europe Review for Labour and Social Affairs, Issue 4, pp. 69-77.
Prast, H.M. (2000), “Herding and Financial Panics: A Role for Cognitive Psychology?”, Research Memorandum WO & E No. 611, Netherlands Central Bank, Econometric Research and Studies Department.
Radanovic, D. (2006), “Investing in Montenegro: Limits and Opportunities”, ICMA Centre Discussion papers in Finance. DP2006-02. ICMA Centre.
Saadi, S., Gandhi, D. and Elmawazini, K. (2006), “On the validity of conventional statistical tests given evidence of non-synchronous trading and non-linear dynamics in returns generating process”, Applied Economics Letters, Vol. 13, pp. 301-305.
Scharfstein, D. and Stein, J. (1990), “Herd Behaviour and Investment”, The American Economic Review, Volume 80, Issue 3, pp. 465-479
Shiller, R. J. (1995), “Conversation, Information and Herd Behavior” American Economic Review, Vol. 85(2), pp. 181–185.”
Siriopoulos, C., Tsotsos, R. and Karagianni, S. (2001), “The Impact of Non Linearities, Thin Trading and Regulatory Changes in the Efficiency of an Emerging Capital Market”, The Journal of Applied Business Research, Vol. 17, No. 4, pp. 81-92
Sofia Echo, “Balkan Exchanges Feel the ‘Kladionica Effect’”, July 9th, 2007
Solibakke, P.B. (2001), “Efficiently ARMA-GARCH estimated trading volume characteristics in thinly traded markets”, Applied Financial Economics, Vol. 11, No. 5, pp. 539-556.
Solibakke, P.B. (2005), “Non-linear Dependence and Conditional Heteroscedasticity in Stock Returns. Evidence from the Norwegian Thinly Traded Equity Market”, European Journal of Finance, Vol. 11, No. 2, pp. 111-136
Voronkova, S. and Bohl, M.T. (2005), “Institutional Traders’ Behaviour in an Emerging Stock Market: Empirical Evidence on Polish Pension Fund Investors”, Journal of Business, Finance and Accounting, 32(7) and (8), pp. 1537-1560.
Wagner, F. (2003), “Volatility Cluster and Herding”, Physica A, Volume 322, pp. 607-619.
Xie, Y., W., B-H, Quan, H., Yang, W. and Hui, P.M. (2002), “Finite-size Effect in the Equíluz and Zimmerman Model of Herd Formation and Information Transmission”, Physical Review E, Vol. 65, 046130-1-6.