The literature on positive feedback trading has grown considerably in recent years. The purpose of this paper is to provide a review of the theoretical and empirical literature on positive feedback trading and especially the literature related to the Sentana and Wadhwani (1992) model.
This literature review covers theoretical and empirical work in this area and it points out shortcomings and potential extensions of the basic feedback model.
The evidence so far points in the direction of positive feedback trading being present in aggregate stock market indices, index futures, bond markets, foreign exchange markets and individual stocks. There are some important issues that require further investigation. For example, it is likely that feedback trading is a function of longer lags of past return. Likewise, asymmetric behavior during up and down markets appears to be the rule rather than the exception. More importantly, the models should allow for positive as well as negative feedback and be general enough to investigate feedback trading behavior in individual assets and not just the aggregate market.
The discussion points out theoretical and empirical limitations and shortcomings of the extant literature.
This is the first paper to review positive feedback trading, implications, limitations and need for future research.
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