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Overweighting of public information in financial markets: A lesson from the lab

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  • Ruiz-Buforn, Alba
  • Camacho-Cuena, Eva
  • Morone, Andrea
  • Alfarano, Simone

Abstract

We study the information aggregation process in a laboratory financial market where traders have access to costly private and free public imperfect information. The public disclosure provokes (i) a crowding-out effect on traders’ information demand, (ii) a market overreaction to the public signal, and (iii) a deterioration in price informativeness. We show that the reduction in price informativeness is a direct consequence of the overweighting of public information when aggregated in prices. Moreover, we provide experimental evidence for the theoretical conjecture that the overweighting effect and the subsequent market overreaction to public disclosures are directly related to traders’ second- (or higher) order beliefs. From an economic policy perspective, we provide support that when deciding on a communication strategy, regulatory institutions can smooth the market overreaction by properly setting the level of transparency of their disclosures.

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  • Ruiz-Buforn, Alba & Camacho-Cuena, Eva & Morone, Andrea & Alfarano, Simone, 2021. "Overweighting of public information in financial markets: A lesson from the lab," Journal of Banking & Finance, Elsevier, vol. 133(C).
    • Handle: RePEc:eee:jbfina:v:133:y:2021:i:c:s0378426621002508
    DOI: 10.1016/j.jbankfin.2021.106298
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    More about this item

    Keywords

    Experiment; Prediction markets; Public information; Overweighting; Crowding-out;
    All these keywords.

    JEL classification:

    • C92 - Mathematical and Quantitative Methods - - Design of Experiments - - - Laboratory, Group Behavior
    • D82 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Asymmetric and Private Information; Mechanism Design
    • G14 - Financial Economics - - General Financial Markets - - - Information and Market Efficiency; Event Studies; Insider Trading

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