Abstract

We present a model where it can be optimal for rational informed speculators/arbitragers to ride the bubble instead of using their information for stabilising purposes. This result stems from the interaction of speculators with behavioural traders. These latter in each period of time either discover the true fundamental value of the asset, or use a positive feedback strategy. We study the equilibrium strategy profiles of speculators in the case of short and long horizons and derive the resulting average expected excess deviation of the asset price. Further we consider the possibility of market manipulation and its consequences on the market efficiency.