Signal or Noise? Uncertainty and Learning about Whether Other Traders are Informed

63 Pages Posted: 2 Sep 2012 Last revised: 29 Mar 2017

See all articles by Snehal Banerjee

Snehal Banerjee

University of California, San Diego (UCSD) - Rady School of Management

Brett Green

Washington University in St. Louis - John M. Olin Business School

Date Written: January 1, 2015

Abstract

We develop a model where some investors are uncertain whether others are trading on informative signals or noise. Uncertainty about others leads to a non-linear price that reacts asymmetrically to news. We incorporate this uncertainty into a dynamic setting where traders gradually learn about others and show that it generates empirically relevant return dynamics: expected returns are stochastic but predictable, and volatility exhibits clustering and the “leverage” effect. The model nests both the rational expectations (RE) and differences of opinions (DO) approaches and highlights a link between disagreement about fundamentals and uncertainty about other traders.

Keywords: Learning, Asymmetric Information, Rational Expectations, Noise Trading, Sentiment, Difference of opinions, Volatility clustering, Leverage effect

JEL Classification: G12, G14

Suggested Citation

Banerjee, Snehal and Green, Brett, Signal or Noise? Uncertainty and Learning about Whether Other Traders are Informed (January 1, 2015). Journal of Financial Economics (JFE), 2015, 117(2): 398-423, Available at SSRN: https://ssrn.com/abstract=2139771 or http://dx.doi.org/10.2139/ssrn.2139771

Snehal Banerjee (Contact Author)

University of California, San Diego (UCSD) - Rady School of Management ( email )

9500 Gilman Drive
Rady School of Management
La Jolla, CA 92093
United States

Brett Green

Washington University in St. Louis - John M. Olin Business School ( email )

One Brookings Drive
Campus Box 1133
St. Louis, MO 63130-4899
United States

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