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Initial cash/asset ratio and asset prices: an experimental study
G Caginalp1, D Porter, V Smith
1Mathematics Department, University of Pittsburgh, Pittsburgh, PA 15260, USA.
Summary
Initial cash-asset imbalance significantly impacts trading prices, with higher cash leading to higher prices. This effect diminishes over time, suggesting a late convergence to fundamental value in asset trading.
Area of Science:
- Behavioral Economics
- Financial Markets
- Experimental Economics
Background:
- Classical game theory and rational expectations models do not fully explain asset pricing anomalies.
- Market dynamics can be influenced by initial endowments, deviating from theoretical predictions.
Purpose of the Study:
- To investigate the influence of initial asset/cash imbalance on trading prices over time.
- To test the hypothesis that endowment effects impact market behavior and price discovery.
Main Methods:
- Controlled experiments with nine participants trading an asset over 15 periods.
- Systematic variation of initial total asset and cash values across experimental conditions.
Main Results:
- Experiments with higher initial cash endowments exhibited significantly higher mean trading prices compared to those with higher initial asset endowments.
- The price difference was most pronounced at the beginning of trading and gradually decreased towards the end, indicating a late convergence to fundamental value.
Conclusions:
- Initial cash-asset imbalances demonstrably affect trading prices, challenging purely rational expectations models.
- Market prices evolve towards fundamental value over a discernible time scale, with implications for securities marketing and public offerings.