By |Published On: October 28th, 2013|Categories: Behavioral Finance|

The value of information in a multi-agent market model

  • Bence Toth, Enrico Scalas, Jurgen Huber and Michael Kirchler
  • A version of the paper can be found here.
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Abstract:

We present an experimental and simulated model of a multi-agent stock market driven by a double auction order matching mechanism. Studying the effect of cumulative information on the performance of traders, we find a non monotonic relationship of net returns of traders as a function of information levels, both in the experiments and in the simulations. Particularly, averagely informed traders perform worse than the non informed and only traders with high levels of information (insiders) are able to beat the market. The simulations and the experiments reproduce many stylized facts of stock markets, such as fast decay of autocorrelation of returns, volatility clustering and fat-tailed distribution of returns. These results have an important message for everyday life. They can give a possible explanation why, on average, professional fund managers perform worse than the market index.

Data Sources:

Experimental evidence.

Alpha Highlight:

The experiments are set up in such a way that certain traders receive different levels of information in a simulated trading environment. The question the authors address is whether or not more information translates into better performance. If agents are perfectly rational we should see a monotonic relationship between information and returns (on average).
arxiv.orgpdfphysics0610026
Of course, readers of Turnkey Analyst already understand that humans aren’t perfectly rational. And of course, the results bear this truth out once again…

From the authors:

The results suggest that only those traders with near perfect information can beat the market. Of course, attaining perfect information in real-world markets is equivalent to attaining insider information that is generally unavailable to the marketplace (unless you like dressing up in chains).

Time for some more channel checks to confirm the discounted cash flow model is correct?

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About the Author: Wesley Gray, PhD

Wesley Gray, PhD
After serving as a Captain in the United States Marine Corps, Dr. Gray earned an MBA and a PhD in finance from the University of Chicago where he studied under Nobel Prize Winner Eugene Fama. Next, Wes took an academic job in his wife’s hometown of Philadelphia and worked as a finance professor at Drexel University. Dr. Gray’s interest in bridging the research gap between academia and industry led him to found Alpha Architect, an asset management firm dedicated to an impact mission of empowering investors through education. He is a contributor to multiple industry publications and regularly speaks to professional investor groups across the country. Wes has published multiple academic papers and four books, including Embedded (Naval Institute Press, 2009), Quantitative Value (Wiley, 2012), DIY Financial Advisor (Wiley, 2015), and Quantitative Momentum (Wiley, 2016). Dr. Gray currently resides in Palmas Del Mar Puerto Rico with his wife and three children. He recently finished the Leadville 100 ultramarathon race and promises to make better life decisions in the future.

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For informational and educational purposes only and should not be construed as specific investment, accounting, legal, or tax advice. Certain information is deemed to be reliable, but its accuracy and completeness cannot be guaranteed. Third party information may become outdated or otherwise superseded without notice.  Neither the Securities and Exchange Commission (SEC) nor any other federal or state agency has approved, determined the accuracy, or confirmed the adequacy of this article.

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