Stock price dynamics: an empirical test of the chartist-fundamentalist hypothesis

Several theoretical papers investigating the effects of financial markets microstructure on asset prices focus on the interaction between a group of more informed (rational) and a group of less informed (noise, liquidity, near rational) traders. In this framework we propose an empirical test of a theoretical hypothesis developed by Sethi (1996) in which fundamentalists trade on deviations between the observed and the “fundamental” price and chartists trade on the basis of their trend expectations. Empirical findings on the dynamics of S&P constituents’ stock prices are broadly consistent with model predictions and highlight the predominant role of chartists’ during the stock market boom of the last part of the 90’s.