Trading Complex Assets

We perform an experimental study of complexity to assess its effect on trading behavior, price volatility, liquidity, and trade efficiency. Subjects were asked to deduce the value of a particular asset from information they were given about the composition and price of several portfolios. Following that, subjects traded with each other anonymously in a well-defined, simple bargaining process. Portfolio problems ranged from requiring simple analysis to more complicated computation. Complexity altered subjects' bidding strategies, decreased liquidity, increased price volatility, and decreased trade efficiency. Female subjects were affected more by complexity (e.g., lower trade frequency), although they achieved higher payoffs in the complex treatment. Our analysis suggests that complexity may be a driver of volatility and liquidity in financial markets and provides novel testable empirical predictions.

[1]  R. Green,et al.  Financial Expertise as an Arms Race , 2011 .

[2]  Ohad Kadan,et al.  Equilibrium in the two-player, k-double auction with affiliated private values , 2007, J. Econ. Theory.

[3]  Ohad Kadan.  Equilibrium in the Two Player, K-Double Auction with Affiliated Private Values , 2006 .

[4]  Sanjeev Arora,et al.  Computational complexity and information asymmetry in financial products , 2011, Commun. ACM.

[5]  Antonio E. Bernardo,et al.  The Valuation of Complex Derivatives by Major Investment Firms: Empirical Evidence , 1997 .

[6]  U. Fischbacher.  z-Tree: Zurich toolbox for ready-made economic experiments , 1999 .

[7]  Bryan R. Routledge,et al.  Prediction Markets: Alternative Mechanisms for Complex Environments with Few Traders , 2010, Manag. Sci..

[8]  Learning to Choose the Right Investment in an Unstable World , 2012 .

[9]  S. Davies,et al.  Competition and Transparency in Financial Markets , 2010 .

[10]  L. Goddard,et al.  Operations Research (OR) , 2007 .

[11]  R. Radner,et al.  The Sealed-Bid Mechanism: An Experimental Study* , 1989 .

[12]  S. Davies,et al.  Competing for Attention in Financial Markets , 2010 .

[13]  Gustavo Manso,et al.  Obfuscation , Learning , and the Evolution of Investor Sophistication Citation , 2010 .

[14]  Markus K. Brunnermeier.  COMPLEXITY IN FINANCIAL MARKETS , 2008 .

[15]  Kalyan Chatterjee,et al.  Bargaining under Incomplete Information , 1983, Oper. Res..

[16]  B. Carlin.  Strategic Price Complexity in Retail Financial Markets , 2006 .

[17]  A. Schotter.  Bad And Good News About The Sealed-Bid Mechanism: Some Experimental Results , 1990 .