Experiments with Financial Markets: Implications for Asset Pricing Theory

This article surveys financial markets experiments from a particular vantage point, namely, asset pricing theory. The goal is to assess to what extent these experiments have (and could) shed light on the validity of the basic principles of asset pricing theory, namely (i) that markets equilibrate to the point that expected returns are proportional to covariance with aggregate risk, (ii) that markets aggregate dispersed information. There appears to be solid support for (i), yet the evidence regarding (ii) is mixed. The reason for the latter is hard to determine, because of features in the experimental design that are at odds with standard asset pricing theory (e.g., the payoff on a security depends on the identity of the holder). Where we can interpret the results, the article demonstrates that the occasional aggregation failures (“mirages†) agree with rational learning. More specifically, their number is consistent with the mistakes one expects a Bayesian to make even when she has full knowledge of the likelihood function (of any signals conditional on the value of the state variable that she is learning).