Estimating a Structural Model of Herd Behavior in Financial Markets

American Economic Review · 2014 · Volume 104 · Issue 1

Abstract

We develop a new methodology to estimate herd behavior in financial markets. We build a model of informational herding that can be estimated with financial transaction data. In the model, rational herding arises because of information-event uncertainty. We estimate the model using data on a NYSE stock (Ashland Inc.) during 1995. Herding occurs often and is particularly pervasive on some days. On average, the proportion of herd buyers is 2 percent; that of herd sellers is 4 percent. Herding also causes important informational inefficiencies in the market, amounting, on average, to 4 percent of the asset's expected value.

Keywords

Financial Econometrics, Asymmetric and Private Information, Mechanism Design, Search, Learning, Information and Knowledge, Communication, Belief, Asset Pricing, Trading Volume, Bond Interest Rates, Information and Market Efficiency, Event Studies, Insider Trading

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