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Noise Trading and Illusory Correlations in US Equity Markets

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  • Jennifer C. Bender
  • carol L. Osler
  • David Simon

Abstract

This paper provides evidence that "illusory correlations"--a well-documented source of cognitive bias--lead some agents to be imperfectly rational noise traders. We focus on the head-and-shoulders chart pattern, considered by technical analysts to provide one of the most reliable trading signals. Our findings indicate that the pattern is associated with a substantial rise in trading volume even though it does not profitably predict directional movements. We further substantiate the connection between head-and-shoulders trading and imperfectly rational noise trading by showing that the pattern is associated with lower bid-ask spreads. Copyright 2013, Oxford University Press.

Suggested Citation

  • Jennifer C. Bender & carol L. Osler & David Simon, 2013. "Noise Trading and Illusory Correlations in US Equity Markets," Review of Finance, European Finance Association, vol. 17(2), pages 625-652.
    • Handle: RePEc:oup:revfin:v:17:y:2013:i:2:p:625-652
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    File URL: http://hdl.handle.net/10.1093/rof/rfr037
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    Cited by:

    1. Ramiah, Vikash & Xu, Xiaoming & Moosa, Imad A., 2015. "Neoclassical finance, behavioral finance and noise traders: A review and assessment of the literature," International Review of Financial Analysis, Elsevier, vol. 41(C), pages 89-100.
    2. Barbopoulos, Leonidas G. & Adra, Samer & Saunders, Anthony, 2020. "Macroeconomic news and acquirer returns in M&As: The impact of investor alertness," Journal of Corporate Finance, Elsevier, vol. 64(C).
    3. Daniel J. Walters & Gülden Ülkümen & David Tannenbaum & Carsten Erner & Craig R. Fox, 2023. "Investor Behavior Under Epistemic vs. Aleatory Uncertainty," Management Science, INFORMS, vol. 69(5), pages 2761-2777, May.
    4. Kim, Jae & Doucouliagos, Hristos & Stanley, T. D., 2014. "Market efficiency in Asian and Australasian stock markets: a fresh look at the evidence," Working Papers eco_2014_9, Deakin University, Department of Economics.
    5. Stéphane Goutte & David Guerreiro & Bilel Sanhaji & Sophie Saglio & Julien Chevallier, 2019. "International Financial Markets," Post-Print halshs-02183053, HAL.

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