A Future Market Reduces Bubbles but Allows Greater Profit for More Sophisticated Traders

C.N. Noussair, S. Tucker, Yilong Xu

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Abstract

We study the effect of the addition of a futures market, in which contracts maturing in the last period of the life of the asset can be traded. Our experiment has two treatments, one in which a spot market operates on its own, and a second treatment in which a spot and futures market are active simultaneously. We find that the futures market reduces spot market mispricing among a trader population prone to bubbles, while having no effect on pricing in a group not prone to it. Thus, overall, futures markets aid price discovery in the spot market, although the futures markets themselves exhibit considerable overpricing. Individuals with higher cognitive reflection test (CRT) scores achieve greater earnings, as they tend to sell in the overpriced futures market,
while traders with lower CRT score make purchases in the futures market. We also consider the predictive power of an enhanced CRT measure (ECRT), which weights two types of incorrect answers differently .
Original languageEnglish
Place of PublicationTilburg
PublisherEconomics
Pages1-36
Number of pages36
Volume2014-051
Publication statusPublished - 2 Sep 2014

Publication series

NameCentER Discussion Paper
Volume2014-051

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Keywords

  • asset market experiment
  • market institution
  • futures market

Cite this

Noussair, C. N., Tucker, S., & Xu, Y. (2014). A Future Market Reduces Bubbles but Allows Greater Profit for More Sophisticated Traders. (pp. 1-36). (CentER Discussion Paper; Vol. 2014-051). Tilburg: Economics.