The Herd Mentality: Understanding the Theories and Models of Herding Behavior in Financial Markets

Abstract

This chapter explores herding behavior in financial markets, where individuals follow the actions of a larger group, impacting market dynamics and asset prices. It covers key theories and models, such as social influence, behavioral finance, and empirical studies, to explain why herding occurs. Psychological biases like overconfidence, fear, and greed are highlighted as drivers of this behavior. Models such as rational expectations, noise traders, and information cascades are discussed, along with methods to measure herding. Case studies like the dot-com bubble and the 2008 financial crisis demonstrate its effects on market volatility and efficiency. The chapter also addresses regulatory implications and future research on the influence of technology and social media in shaping herding.