Coordination on bubbles in large-group asset pricing experiments (Q2291435)

The authors present an experiment in which participants predict the price of an asset, whose realization depends on the aggregation of individual forecasts. The markets consist of 21 to 32 participants. Multiple large price bubbles occur in six out of seven markets. Individual forecast errors do not cancel out at the aggregate level, but participants coordinate on a trend-following prediction strategy that gives rise to large bubbles. The observed price patterns can be captured by a behavioral heuristics switching model (HSM) with heterogeneous expectations. The main idea of the HSM is that participants can choose between a number of simple heuristics to make a price prediction. In each period, participants evaluate the past performance of all heuristics, measured by the quadratic forecast error. Then evolutionary selection takes place, meaning that participants tend to switch to better performing rules.