A simple nonlinear structural model of endogenous belief heterogeneity is proposed. News about fundamentals is an IID random process, but nevertheless volatility clustering occurs as an endogenous phenomenon caused by the interaction between different types of traders, fundamentalists and technical analysts. The belief types are driven by adaptive, evolutionary dynamics according to the success of the prediction strategies as measured by accumulated realized profits, conditioned upon price deviations from the rational expectations fundamental price. Asset prices switch irregularly between two different regimes - periods of small price fluctuations and periods of large price changes triggered by random news and reinforced by technical trading - thus, creating time varying volatility similar to that observed in real financial data. © 2007 Springer Berlin Heidelberg.
Gaunersdorfer, A., & Hommes, C. (2007). A nonlinear structural model for volatility clustering. In Long Memory in Economics (pp. 265–288). Springer Berlin Heidelberg. https://doi.org/10.1007/978-3-540-34625-8_9