Information Percolation, Momentum and Reversal

90 Pages Posted: 30 Oct 2010 Last revised: 25 Mar 2017

See all articles by Daniel Andrei

Daniel Andrei

McGill University; Desautels Faculty of Management

Julien Cujean

Ecole Polytechnique Fédérale de Lausanne

Date Written: November 26, 2010

Abstract

We propose a joint theory of time-series momentum and reversal based on a rational-expectations model. We show that a necessary condition for momentum to arise in this framework is that information flows at an increasing rate. We focus on word-of-mouth communication as a mechanism that enforces this condition and generates short-term momentum and long-term reversal. Investors with heterogeneous trading strategies — contrarian and momentum traders — coexist in the marketplace. Although a significant proportion of investors are momentum traders, momentum is not completely eliminated. Word-of-mouth communication spreads rumors and generates price run-ups and reversals. Our theoretical predictions are in line with empirical findings.

Keywords: Asset pricing; Momentum; Information percolation; Equilibrium

JEL Classification: G11, G12, G14

Suggested Citation

Andrei, Daniel and Cujean, Julien, Information Percolation, Momentum and Reversal (November 26, 2010). Journal of Financial Economics (JFE), Vol. 123, 2017, Available at SSRN: https://ssrn.com/abstract=1699173 or http://dx.doi.org/10.2139/ssrn.1699173

Daniel Andrei (Contact Author)

McGill University ( email )

1001 Sherbrooke St. W
Montreal, Quebec H3A 1G5
Canada

Desautels Faculty of Management ( email )

1001 Sherbrooke St. W
Montreal, Quebec H3A 1G5
Canada

Julien Cujean

Ecole Polytechnique Fédérale de Lausanne ( email )

c/o University of Geneve
40, Bd du Pont-d'Arve
1211 Geneva, CH-6900
Switzerland

Do you have a job opening that you would like to promote on SSRN?

Paper statistics

Downloads
214
Abstract Views
1,543
rank
201,970
PlumX Metrics