Naive traders and mispricing in prediction markets

Ricardo Serrano-Padial

Journal of Economic Theory, 2012, vol. 147, issue 5, 1882-1912

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.

Keywords: Naive traders; Double auction; Common values; Private information; Prediction markets; Favorite-longshot bias (search for similar items in EconPapers)
JEL-codes: C72 D44 D82 (search for similar items in EconPapers)
Date: 2012
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (10)

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Persistent link: https://EconPapers.repec.org/RePEc:eee:jetheo:v:147:y:2012:i:5:p:1882-1912

DOI: 10.1016/j.jet.2012.05.020

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