An Interacting Agents Model Approach to Stock Market Crashes

The aim of this study is to understand the role of herd behaviour on stock market crashes. A model of interacting agents in a market, buying and selling a single financial asset is studied. Agents give their decisions to buy or sell according to a combination of neighbourhood influence, public news and personal judgements. Assuming public news gets worse progressively, the evolution of the agents’ average opinion (based on their decisions) is investigated in the presence of weak and strong neighbourhood influence. Model also suggests a criteria for the existance of herd behaviour under such an assumption. Applying this criteria to the empirical data, evidence of herd behaviour is found in US stock market crash during 2008 financial crisis.