Riding Bubbles
80 Pages Posted: 17 Mar 2008 Last revised: 18 Mar 2010
There are 2 versions of this paper
Riding Bubbles
Riding Bubbles
Date Written: December 9, 2009
Abstract
We empirically analyze rational investors' optimal response to asset price bubbles. We define bubbles as a sudden acceleration of price growth beyond the growth in fundamental value given by an asset pricing model. Our new bubble detection method requires only a limited time-series of historical returns. We apply our method to US industries and find strong statistical and economic support for the riding bubbles hypothesis: when an investor detects a bubble, her optimal portfolio weight increases significantly. A dynamic riding bubble strategy that uses only real-time information earns abnormal annual returns of 3% to 8%.
Keywords: bubbles, limits to arbitrage, market efficiency, structural breaks
JEL Classification: G10, G14, C14
Suggested Citation: Suggested Citation
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