The tendency of asset prices to trend over short horizons and slowly revert over long horizons—momentum and reversal—can find an explanation within a simple, rational model. The key ingredient is word-of-mouth communication, which we introduce in the standard noisy rational expectations framework. Word-of-mouth communication accelerates the information revelation and generates momentum in asset returns. Due to social interactions, investors with heterogeneous trading strategies optimally coexist in the marketplace—some agents are contrarians, others are momentum traders, yet momentum is not completely eliminated. Finally, word-of-mouth communication can propagate a rumor and a price run-up; the price reverts once the rumor subsides. The authors are grateful for comments received from Rui Albuquerque, Philippe Bacchetta, Sneha
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