An analysis of the influence of fundamental indexing on financial markets through agent-based modeling: the fundamentalist and fundamental indexing

• Authors: Hiroshi Takahashi
• Venue: Transactions on Computational Collective Intelligence VIII
• Year: 2012

This research analyzes the influence of indices which are employed in the asset management business on financial markets through agent-based modeling. In this analysis, I focus on a fundamental index, which has been proposed as a new benchmark for investments in place of price indices, which are currently employed in practical business affairs. As a result of intensive experiments in the market, I made the following interesting findings: (1) fundamental indexing works as effectively as a price indexing in the market when market prices reflect fundamental values; (2) improvements in forecast accuracy of fundamentalists can contribute to a decrease in the number of investors that employ fundamental indexing; (3) forecast accuracy have the same impact on both fundamental indexing and price indexing; (4) fundamental indexing contributes to market efficiency. However, I also found drawbacks to fundamental indexing, such as the risk of destabilizing markets when too many investors employ passive investment strategies using the fundamental index. These results are significant from both practical and academic viewpoints. These analyses also demonstrate the effectiveness of agent-based techniques and inverse simulation techniques for financial research.