An Experimental Study of the Effect of the Anchor of the Option's Underlying Asset on Investors’ Pricing Decisions

Abstract

The current study tests experimentally whether decision makers' options pricing is biased by the magnitude of the option's underlying asset outcomes in what is called an anchor effect. We recruited 1,023 participants through Amazon’s Mechanical Turk platform (MTurk) and assigned them randomly to eight groups that differed by type of asset and pricing position (buy or sell). Participants were asked to price a lottery, meaning, the option, whose outcomes are derived from an underlying lottery with a high, low or non-numerical possible outcome. The results indicate that the underlying asset's magnitude (low or high) creates an anchor that affects the option’s pricing. However, the option's pricing is not affected by framing it as a derivative lottery. To the best of our knowledge, this is the first study that examines whether the underlying asset creates an anchor that affects an option’s pricing.

Keywords:

• Anchoring effect
• Framing effect
• Options
• Derivative pricing
• Financial assets

Conflicts of interest statement

The authors have no conflicts of interest to declare that are relevant to the content of this article.

Data availability statement

Data supporting the findings of this study are available from the corresponding author on request.

Notes

1 The strike price is defined as a predetermined price at which an option's underlying asset can be bought or sold when the option is exercised.

2 A financial market transaction in which the seller of call options owns the corresponding amount of the underlying instrument, such as shares of a stock or other securities.

3 A combination of a risk-free asset with put options.

4 The relationship between implied volatility and the strike price (the option’s predetermined future price) for options with a certain maturity (Hull 2017).

5 NIS = New Israeli Shekel.

6 The right (but not the obligation) to buy an underlying asset at a pre-specified price.

7 The right (but not the obligation) to sell an underlying asset at a pre-specified price.

8 The maximum amount an individual is willing to pay for a given asset.

9 The minimum amount an individual is willing to accept for agreeing to pay the outcome of a given asset.

10 A basic equilibrium that defines the relationship between the prices of call and put options on a given asset with the same strike prices and the same expiration dates.

11 The anchored derivative lottery has the same two potential outcomes–X₁ and X₂–as the direct lottery. However, these outcomes are derived from the outcomes of numerically anchored underlying assets, Y₁ and Y₂, respectively. Thus, the unbiased expected value of an anchored derivative lottery is .

12 Defined as the minimum amount an individual is willing to accept to sell an asset (s)he holds.

13 Ethical approval was received from the university's human subjects’ research committee.

14 There were insignificant differences among the groups in their average age (F (7,1015) = 1.369, p = .215), risk attitudes (F (7,1015) = .691, p = .679) and gender composition (χ²(7) = 8.113, p = .323).

15 We used this design to avoid internal anchoring effects that might also bias the participants’ responses.

16 Based on Amazon MTurk’s pricing guidance. Researchers are requested to reward participants fairly with at least $0.01 for each task. The participants in this study were asked to complete 35 tasks in the experiment and therefore received $0.35.

17 To verify that the participants completed the HIT, they entered the 9-digit random number that was generated at the end of the questionnaire.

18 Cohen's d statistic was 1.351, 1.063, 1.213, and 0.826 for the direct, non-anchored, low and high anchor derivative groups, respectively.