We dispel the belief that the January effect is due to retail investor trading. Previous studies suggest that retail investors, affected by behavioural biases and disproportionally invested in small capitalization stocks, are the source of the January effect. Furthermore, the literature regards retail investor trading and the tax-loss selling hypothesis as essentially the same explanation. We separate tax implications and market capitalization to show that retail traders are not the cause of the January effect. Our study is an important direct test of whether retail trading causes market anomalies.

We investigate whether prices in experimental asset markets behave differently when participants are required to trade over earned wealth compared to unearned wealth. The latter describes the standard practice of endowing participants with cash/assets in experimental asset market studies of bubbles, which may elicit greater-than-normal risk-seeking behaviour, thereby confounding attempts to understand their drivers or mitigators. We take a new methodological approach in the vein of Cherry et al (2002) in seeking to answer this question by requiring participants in one treatment to earn their initial market allocation. We find that bubbles/mispricing occurs with similar frequency, severity, and duration whether trade occurs with earned or unearned wealth. Our results indicate that any confounding effect(s) caused by endowed money in past studies of bubbles is minimal. Consequently, existing methodology in the study of bubbles does not require modification. 20 minutes given to participants to complete the quiz was selected to give participants more than enough time to attempt all questions, and in fact, 90% of subjects completed the quiz before time ran out. 9 Note, HS (LS) traders only traded with other HS (LS) traders allocated to the same market.

Existing studies of the aggregate impacts of tournament incentives find that asset price bubbles in experimental markets are larger and do not dissipate with experience when participants trade under tournament incentives. However, these results potentially overstate the real-world impacts of tournament incentives for two reasons. First, they examine tournaments in a restrictive single-asset market setting, which constrains the risk-taking options available to traders. Second, by purely conferring additional rewards for good relative performance, the tournament contracts used ignore the risk-moderating role played by penalties that are also written into or implicit in real-world counterparts. We address these gaps by examining how prices behave under tournament incentives in experimental markets where participants can trade two assets with differing risk-levels. In addition, we compare price behaviour under tournament incentives with and without an embedded penalty for poor performance. Our findings suggest that the results in the existing literature are driven by the single-asset nature of their marketswe do not find any compelling evidence that prices in two-asset markets are more distorted under tournament incentives than normal incentives. Moreover bubbles in these markets do diminish with experience under tournament incentives. Also, while penalties embedded into tournament contracts are associated with less trading activity in markets compared to reward-only tournament contracts, they are also associated with longer periods of overvaluation and higher prices, albeit only with inexperienced traders. These results are particularly significant in light of the recent debate attributing financial market instability to convex incentive structures such as tournament incentives.

No abstract

No abstract