Steven Horwitz
My colleagues David Thomas, James Mcclure, and I have revised our paper "Efficient Derivative Pricing and Sequestered Capital: The Case of Investment Trust Pricing in 1929" once again and a new version is now available on SSRN.
We present evidence that undermines one of the heretofore best cases for the belief that irrational, speculative bubbles were an important cause of the 1929 stock market crash.
Abstract
The efficient market hypothesis implies that the price of a financial derivative should mirror the value of its underlying asset(s). This model is used to reconsider an historical anomaly—the large, allegedly irrational, premia on investment trusts that preceded the 1929 crash. First, we reexamine evidence—highly cited for decades—alleging anomalous premia on portfolio-publishing trusts preceding the crash. Our assessment, based on current information-gathering capabilities, shows no evidence of anomalous premia in the cases considered. Secondly, we test our model on a data set of over 3,000 price observations, using regression discontinuity in time (RDiT) designs. As expected, the prices of blind trusts quickly corrected with the disclosure of their underlying portfolios. Our findings suggest that sequestered capital, rather than irrational exuberance, was primarily responsible for the premia on trusts in 1929.
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