55 Pages Posted: 2 Jul 2013
Date Written: June 2013
We introduce noisy information into a standard present value stock price model. Agents receive a noisy signal about the structural shock driving future dividend variations. The resulting equilibrium stock price includes a transitory component the "noise bubble" which can be responsible for boom and bust episodes unrelated to economic fundamentals. We propose a non-standard VAR procedure to estimate the structural shock and the "noise" shock, their impulse response functions and the bubble component of stock prices. We apply such procedure to US data and find that noise explains a large fraction of stock price volatility. In particular the dot-com bubble is entirely explained by noise. On the contrary the stock price boom peaking in 2007 is not a bubble, whereas the following stock market crisis is largely due to negative noise shocks.
Keywords: Noise shocks, Rational bubbles, Structural VARs
JEL Classification: C32, E32, E62
Suggested Citation: Suggested Citation
Here is the Coronavirus
related research on SSRN
This is a CEPR Discussion Paper. CEPR charges a fee of $8.00 for this paper.
If you wish to purchase the right to make copies of this paper for distribution to others, please select the quantity.