Game Theory - Designing the mechanisms

Does anyone know whether Game Theory is applied in investment banking? Sort of an off the wall question but I feel like it'd be pretty useful in designing the mechanisms that would give the best value for an IPO or the strategy of an M&A deal. Besides qualitative analysis it brings quant models that account for probability of success and strengths and weaknesses. I am talking about more formal analysis beyond the business strategy for dummies book or Sun Tzu's Art of War. This may be covered by some business school specific courses which I don't have experience with so forgive me if this is a stupid question.

 
Best Response

No it does not, for a few reasons. I took a few pretty high levels of game theory in college (1 500+ course) so I think I am qualified to speak on it.

An IPO would be most appropriately modelled by Bayesian games or auctions in particular. It has been proven that regardless of what kind of auction you do you will end up with the same final price. Now you can argue that some forms will lead to higher prices than others in practice; that may be true but that is not game theory, it's behavioral economics.

As far as the "account for probability of success", that would be done using a formal Nash equilibrium for different choice sets. However for one, those valuations in i-banking are more general and less structured (an MD who is very experienced will have a good idea of what constitutes a successful deal in a particular industry but won't be able to give specific numbers). As a result the NE depends more on unstructured data, which leads to very basic calculations, which can inevitably be done with zero knowledge of game theory.

So in short, game theory is useless in i-banking.

 

I wouldn't start by framing this as a game-theoretic problem with players, strategies, payoffs, ... while it's good to keep in mind what options your adversaries have, you don't know what their strategies are, what their costs are, their payoffs... and they don't really know either... the real world is a complicated place and artificially / prematurely reducing it to a couple of boxes doesn't seem to do it justice

I would view this from a fundamental point of view. Who buys the stock? Why? How much will they buy? The first thing I'd do is determine the holdings of all the large players whose actions are constrained by their roles (e.g. index funds, ... ), then figure out how much they will have to sell or buy of the respective stocks. Then it gets kind of hazy. How much did people buy / sell already in anticipation of ripping off these funds? Is the re-balance already priced in... this is complicated stuff

tl;dr: estimate how much it should be worth, compare to market price, no clear answer to how you should price it, but supply and demand's a good way to start

 

"How much did people buy / sell already in anticipation of ripping off these funds? Is the re-balance already priced in"

That's the question :) So how do you model that?

http://www.haolaowai.org/
 

yea, this was on one of eddie's bonus bananas last week i think. anyway, i could see this show being a fail because of everyone always agreeing to split right away. Unless they purposely seed game theorists to overthink shit and make the show entertaining like this guy

GBS
 

They have stopped this show now, because people realised it was better just to steal. It was interesting to see if people took the perfect option or the emotive option. The ideal outcome is always from stealing, and so in theory you should do this every time.

 
melvvvar:
why must we call it game theory? isn't that just a fancy term for what we used to call "thinking things through?"
It's Game Theory at its simplest. This is what you learn in intro classes. But it's a good introduction to the advanced thinking and quantitative techniques that are actually taught in higher level classes. It's just like any other subject. A lot of the foundation is easy and simple. But you have to have that solid base understanding to do well as the subject progresses.
 

^^^ True.

And he didn't really show the power of game theory, because he still went for the imperfect option. He should of still stolen, and if he wanted to split it, have done it after the show as he said he would. By going with split at the end he risks the guy lying to him.

 

he chose the imperfect option, but by defecting he was able to leave with something which is what game theory states. If he stole then 1 person is completely screwed but he chose to take the deal which is the predicted outcome. anon56 is right the correct way to maximize the outcome would be to steal i.e defect every time, but its a risky move... by gassing the other guy up he took control of the outcome of the game.

 

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