Tremor price dynamics in the world's network of stock exchanges

TL;DR

This paper models global stock exchange dynamics using a tectonic plate analogy, incorporating nonlinear human behavioral responses to explain stress buildup, release, and synchronization across markets.

Contribution

It introduces a novel model inspired by earth tectonics to understand stock market stress and synchronization, integrating behavioral nonlinearities.

Findings

Model predicts price movements based on global market performance.

Empirical validation with 24 major stock exchanges supports the model.

Threshold effects can cause synchronization in the global stock network.

Abstract

We use insight from a model of earth tectonic plate movement to obtain a new understanding of the build up and release of stress in the price dynamics of the worlds stock exchanges. Nonlinearity enters the model due to a behavioral attribute of humans reacting disproportionately to big changes. This nonlinear response allows us to classify price movements of a given stock index as either being generated due to specific economic news for the country in question, or by the ensemble of the worlds stock exchanges reacting together like a complex system. Similar in structure to the Capital Asset Pricing Model in Finance, the model predicts how an individual stock exchange should be priced in terms of the performance of the global market of exchanges, but with human behavioral characteristics included in the pricing. A number of the models assumptions are validated against empirical data for 24 of the worlds leading stock exchanges. We show how treshold effects can lead to synchronization in the global network of stock exchanges.