Investment Horizons and Price Indeterminacy in Financial Markets

Abstract

We examine how different investment horizons, and consequently the number of hands through which a security passes during its life, affect prices in a laboratory market populated by overlapping generations of investors. We find that (i) price deviations are larger in markets populated only by shorthorizon investors compared to markets with long-horizon investors; (ii) for a given maturity of security, price deviations increase as investment horizons shrink (and frequency of transfers increases); and (iii) short investment horizons create upward pressure on prices when liquidity is high and downward pressure when liquidity is low.

Are long-horizon expectations (de-)stabilizing? Theory and experiments

“…However, in those studies, the participants' elicited forecasts do not themselves affect the price dynamics, which is a fundamental difference relative to our framework. In a pair of experimental contributions, Hirota & Sunder (2007) and Hirota et al (2015) studied the influence of trading horizons in a double auction stock market, but their setting differs substantially from ours. Among other differences, their studies are not LtFEs, as their participants trade in every period a security that matures at a known date.…”

Asset price volatility and investment horizons: An experimental investigation

“…Finally, results of our LtF experiment can be compared with experimental markets where participants trade. Hirota and Sunder (2007) and Hirota et al (2015), for example, distinguish long-horizon traders, who can trade in the asset until it reaches maturity and pays out its dividend, and short-horizon traders, who leave the market before the asset matures and can therefore only profit from speculating on capital gains. Under rational expectations, these short-horizon traders should also understand, by using backward induction from the period of maturity of the asset, that its price should equal the fundamental value (see, e.g., Tirole, 1982Tirole, , 1985.…”