Aversion to price risk and the afternoon effect
Mezzetti, Claudio (2008) Aversion to price risk and the afternoon effect. Working Paper. Coventry: University of Warwick, Department of Economics. Warwick economic research papers (No.857).
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Many empirical studies of auctions show that prices of identical goods sold sequentially follow a declining path. Declining prices have been viewed as an anomaly, because the theoretical models of auctions predict that the price sequence should either be a martingale (with independent signals and no
informational externalities), or a submartingale (with affiliated signals). This paper shows that declining prices, the afternoon effect, arise naturally when bidders are averse to price risk. A bidder is averse to price risk if he prefers to win an object at a certain price, rather than at a random price with the same expected value. When bidders have independent signals and there are no informational externalities, only the effect of aversion to price risk is present and the price sequence is a supermartingale. When there are informational externalities, even with independent signals, there is a countervailing, informational effect, which pushes prices to raise along the path of a sequential auction. This may help explaining the more complex price paths we observe in some auctions.
|Item Type:||Working or Discussion Paper (Working Paper)|
|Subjects:||H Social Sciences > HB Economic Theory|
|Divisions:||Faculty of Social Sciences > Economics|
|Library of Congress Subject Headings (LCSH):||Risk assessment, Price regulation, Auctions, Information asymmetry, Martingales (Mathematics)|
|Series Name:||Warwick economic research papers|
|Publisher:||University of Warwick, Department of Economics|
|Place of Publication:||Coventry|
|Official Date:||19 May 2008|
|Number of Pages:||37|
|Status:||Not Peer Reviewed|
|Access rights to Published version:||Open Access|
 Ashenfelter, O. (1989): How Auctions Works for Wine and Art. Journal of Economic Perspectives, 3,
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