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Naive traders and mispricing in prediction markets

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  • Serrano-Padial, Ricardo
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    Abstract

    This paper studies pricing patterns in a speculative market with asymmetric information populated by both sophisticated and naive traders. Three pricing regimes arise in equilibrium: perfect pricing, with prices equalling asset values, partial mispricing and complete mispricing. Perfect pricing obtains when the presence of naive traders is small although not necessarily zero. When the fraction of naive traders is moderate prices are correct for some values but not for others. Finally, complete mispricing typically arises when the presence of naive traders is sufficiently high. Mispricing exhibits a systematic pattern of overpricing low values and underpricing high values.

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    Bibliographic Info

    Article provided by Elsevier in its journal Journal of Economic Theory.

    Volume (Year): 147 (2012)
    Issue (Month): 5 ()
    Pages: 1882-1912

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    Handle: RePEc:eee:jetheo:v:147:y:2012:i:5:p:1882-1912

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    Web page: http://www.elsevier.com/locate/inca/622869

    Related research

    Keywords: Naive traders; Double auction; Common values; Private information; Prediction markets; Favorite-longshot bias;

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    References

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    Cited by:
    1. Buckley, Winston & Long, Hongwei & Perera, Sandun, 2014. "A jump model for fads in asset prices under asymmetric information," European Journal of Operational Research, Elsevier, vol. 236(1), pages 200-208.

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