In particular, financial trends start from rational causes but are often prolonged to a point where prices swing far into the irrational. In the context of a market, a feedback loop can be understood simply as the price-amplification that occurs whenever profits are reinvested. A trader profits, reinvests those profits and makes more profits. Others bring in new funding in hope of emulation.
That's on the upside. On the downside, the feedback loop consists of selling that triggers more selling. Quite apart from panic situations, this can occur due to program-trading. One trader's stop-loss is triggered and he sells. That pushes prices down to hit a second stop-loss where another trader sells. That triggers margin calls that cause a third wave of selling, etc.
In the past few years we have definitely seen reflexivity at work. By May 2006, when the Nifty was trading at 3,650, valuations no longer justified buying Indian equities. The PE ratio was 20 and T-Bill yields were over 7 per cent. At that point the market crashed
