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Bayesian Analysis of Bubbles in Asset Prices

35 Pages Posted: 24 Feb 2014 Last revised: 12 Sep 2017

Andras Fulop

ESSEC Business School

Jun Yu

Singapore Management University; Singapore Management University - Lee Kong Chian School of Business

Date Written: September 11, 2017

Abstract

We develop a new model where the dynamic structure of the asset price, after the fundamental value is removed, is subject to two different regimes. One regime reflects the normal period where the asset price divided by the dividend is assumed to follow a mean-reverting process around a stochastic long run mean. The second regime reflects the bubble period with explosive behavior. Stochastic switches between two regimes and non-constant probabilities of exit from the bubble regime are both allowed. A Bayesian learning approach is employed to jointly estimate the latent states and the model parameters in real time. An important feature of our Bayesian method is that we are able to deal with parameter uncertainty and at the same time, to learn about the states and the parameters sequentially, allowing for real time model analysis. This feature is particularly useful for market surveillance. Analysis using simulated data reveals that our method has good power properties for detecting bubbles. Empirical analysis using price-dividend ratios of S&P500 highlights the advantages of our method.

Keywords: Parameter Learning, Markov Switching, MCMC

JEL Classification: C11, C13, C32, G12

Suggested Citation

Fulop, Andras and Yu, Jun, Bayesian Analysis of Bubbles in Asset Prices (September 11, 2017). Available at SSRN: https://ssrn.com/abstract=2400050 or http://dx.doi.org/10.2139/ssrn.2400050

Andras Fulop (Contact Author)

ESSEC Business School ( email )

3 Avenue Bernard Hirsch
CS 50105 CERGY
CERGY, CERGY PONTOISE CEDEX 95021
France

HOME PAGE: http://www.andrasfulop.com

Jun Yu

Singapore Management University ( email )

90 Stamford Rd
Room 5055
Singapore, 178903
Singapore
+6568280858 (Phone)
+6568280833 (Fax)

HOME PAGE: http://www.mysmu.edu/faculty/yujun/

Singapore Management University - Lee Kong Chian School of Business ( email )

469 Bukit Timah Road
Singapore 912409
Singapore

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