Measuring the Behavioral Component of Financial Fluctuations: An Analysis Based on the S&P 500

45 Pages Posted: 2 Oct 2014

See all articles by Massimiliano Caporin

Massimiliano Caporin

University of Padua - Department of Statistical Sciences

Luca Corazzini

University of Padua - Department of Economics; Bocconi University - Department of Economics

Michele Costola

Ca' Foscari University of Venice

Date Written: October 2, 2014

Abstract

We study the evolution of the behavioral component of the financial market by estimating a Bayesian mixture model in which two types of investors coexist: one rational, with standard subjective expected utility theory (SEUT) preferences, and one behavioral, endowed with an S-shaped utility function. We perform our analysis by using monthly data on the constituents of the S&P 500 index from January 1962 to April 2012. We assume that agents take investment decisions by ranking the alternative assets according to their performance measures. A tuning parameter blending the rational and the behavioral choices can be estimated by using a criterion function. The estimated parameter can be interpreted as an endogenous market sentiment index. This is confirmed by a number of checks controlling for the correlation of our endogenous index with measures of (implied) financial volatility, market sentiments and financial stress. Our results confirm the existence of a significant behavioral component that reaches its peaks during periods of recession. Moreover, after controlling for a number of covariates, we observe a significant correlation between the estimated behavioral component and the S&P 500 return index.

Keywords: investment decision, behavioral agents, mixture model, behavioral expectations

JEL Classification: G01, G02, G11, G17, C58

Suggested Citation

Caporin, Massimiliano and Corazzini, Luca and Costola, Michele, Measuring the Behavioral Component of Financial Fluctuations: An Analysis Based on the S&P 500 (October 2, 2014). Available at SSRN: https://ssrn.com/abstract=2504381 or http://dx.doi.org/10.2139/ssrn.2504381

Massimiliano Caporin (Contact Author)

University of Padua - Department of Statistical Sciences ( email )

Via Battisti, 241
Padova, 35121
Italy

Luca Corazzini

University of Padua - Department of Economics ( email )

via Del Santo 33
Padova, 35123
Italy

Bocconi University - Department of Economics ( email )

Via Gobbi 5
Milan, 20136
Italy

Michele Costola

Ca' Foscari University of Venice ( email )

Cannaregio 873
Venice, 30121
Italy

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

Paper statistics

Downloads
118
Abstract Views
1,124
Rank
467,494
PlumX Metrics