1 / 22

UNCERTAINTY AVERSION VS. COMPETENCE: AN EXPERIMENTAL MARKET STUDY

UNCERTAINTY AVERSION VS. COMPETENCE: AN EXPERIMENTAL MARKET STUDY. Carmela Di Mauro Università di Catania, Italy. General research question:. Does ambiguity aversion arise and persist in markets?. Ambiguity effects in markets Theoretical foundations. Dow and Werlang (1992)

milica
Download Presentation

UNCERTAINTY AVERSION VS. COMPETENCE: AN EXPERIMENTAL MARKET STUDY

An Image/Link below is provided (as is) to download presentation Download Policy: Content on the Website is provided to you AS IS for your information and personal use and may not be sold / licensed / shared on other websites without getting consent from its author. Content is provided to you AS IS for your information and personal use only. Download presentation by click this link. While downloading, if for some reason you are not able to download a presentation, the publisher may have deleted the file from their server. During download, if you can't get a presentation, the file might be deleted by the publisher.

E N D

Presentation Transcript

  1. UNCERTAINTY AVERSION VS. COMPETENCE: AN EXPERIMENTAL MARKET STUDY Carmela Di Mauro Università di Catania, Italy

  2. General research question: Does ambiguity aversion arise and persist in markets?

  3. Ambiguity effects in marketsTheoretical foundations • Dow and Werlang (1992) • Epstein and Wang (1994) • Epstein (2000) • Mukerji and Tallon (2001) • Mukerji and Tallon (2003)

  4. Evidence from experimental markets • Camerer and Kunreuther (1989), J. Risk and Uncertainty • Sarin and Weber (1993),Management Science • Di Mauro and Maffioletti (2004), Applied Economics • Di Mauro (2005), under review

  5. Making uncertainty operational • Ellsberg’s urn • Second order probabilities • Real event uncertainty Chance processes

  6. Source preference [Heath and Tversky (1991), Wakker and Tversky (1995), Tversky and Fox (1995)] Ambiguity attitude is determined not by the fact that the decision maker lacks the knowledge about some aspects of the stochastic structure of a problem, but rather by the fact that one source of uncertainty is preferred over another.

  7. The Competence hypothesis [Heath and Tversky (1991)] Individuals prefer betting on their own judgment over an equiprobable chance event when they consider themselves knowledgeable, but not otherwise. Competence effects are inconsistent with ambiguity aversion because judgmental probabilities are more ambiguous than chance events

  8. Evidence on competence effects • Heath and Tvesky (1991) • Fox and Tversky (1995) • Kuehberger and Perner (2003) • Keppe and Weber (1995) • Kilka and Weber (2000)

  9. Specific research questions - Does competence effects or ambiguity aversion persist in the face of market specific discipline? • Are market prices and volumes affected?

  10. Market organization • Computerised Double Auction market run for 12 periods, plus 2 dry runs • each market period lasts 4 minutes • 8 traders per session • 3 couples of complementary two-outcome assets are traded • Both chance based and natural event based bets are traded • Uncertainty is solved at the end of each market period • Traders are allowed to buy and sell all traded assets • Initial endowment: cash + risky position in assets • Earnings are based on profits gained in a randomly selected period (average earning €15).

  11. Making event uncertainty operational in the experiment • The resolution of uncertainty is tied to the realization of natural events about which the decision maker is more or less knowledgeable • Choice/valuation of natural events is then contrasted with comparable chance events

  12. Experiment 1 E1 (5 sessions) As in Heath and Tversky’s experiment 5, it is assumed that subjects are more knowleadgeable about home, rather than foreign events

  13. Example of lotteries traded

  14. Pricing predictions No arbitrage – Arbitrage should push the sum of prices of complementary assets to equal the aggregate payoff irrespective of risk and ambiguity attitude. Ambiguity aversion – The sum of prices for complementary ambiguous lotteries is lower than that for chance lotteries. Competence effects – The sum of prices for higher knowledge lotteries exceeds that for chance lotteries, but not otherwise

  15. Sum of mean prices – E1(average over periods) SUM(chance) > SUM(EU): S1, S2, S4, S5 SUM(chance) > SUM(US): S1, S2, S4, S5 SUM(EU) > SUM(US): S1, S2, S3

  16. Estimated eq: Pt = +  Pt-1 + tstationary price = /(1- ) Prices for chance bets higher than those for ambiguous bets in four sessions out of five

  17. What may explain the different result with respect to Heath and Tversky’s experiment? Maybe traders in experiment 1 consider questions relating to US and EU weather as equally ambiguous.

  18. Frequency of preference to bet on own judgement/chance event (%) Frequency ofpreference for complementary bets (%)

  19. Experiment 2 E2 (5 sessions) Before market trading begins, participants state whether they feel knowledgeable /unknowledgeable with respect to 70 EU and US cities. Only known EU cities and unknown US cities are used to build lotteries traded in subsequent markets

  20. Sum of mean prices – E2 SUM(EU) > SUM(chance): S1, S3, S4, S5 SUM(chance) > SUM(US): S2, S3, S5 SUM(EU) > SUM(US): S1, S2, S3, S5

  21. stationary prices SUM(EU) > SUM(US): S1, S2, S3, S4, S5 SUM(EU) > SUM(chance): S1, S2, S3, S5 SUM(chance) > SUM(US): S2, S3, S4, S5

  22. Conclusions and research agenda • Evidence of a competence effect in Exp. 2, but need to check its robustness across alternative specification of “knowledge” • Judged probabilities are not elicited, so doubts exist whether the natural and chance events are considered equiprobable • No convergence to the no arbitrage value is observed • Re-run experiment with experienced subjects • Pre-market tutorial on how to arbitrate

More Related