Price Expectations in Experimental Asset Markets with Futures Contracting

Abstract

A financial bubble is defined as a condition in which the trading price of an asset is above (and increasing relative to) its discounted present value of earnings, i.e., its fundamental value. Consider the data in Figure 1 where an asset was traded over 15 consecutive trading periods. In the figure, we plot the deviation in mean contract price from the net asset value (NAV) of the security for each of the trading periods. Notice that the price grows steadily, peaks, and then "crashes" to its NAV. There is a puzzle concerning the level of premiums and discounts from NAV for closed-end funds, which provides a challenge to a rational expectations theory of asset pricing, since the data in Figure 1 was generated from an experiment in which the fundamental value of the asset was controlled. There were no external market factors to justify the deviation from fundamental value other than the capital gains expectation of the participants (see smith, Suchanek and Williams [1988] hereafter referred to as SSW). The phenomena describe in Figure 1 is a very standard outcome of a specific experimental asset market that has been replicated over 70 times with diverse subject pools.

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