So I have a confession to make: I seriously dislike auctions.
I mean, I know why they exist, and I know that you can sometimes get a good deal. But here are some other things that I now know to be true:
- If you’re going to an auction (online or otherwise) for something specific, then you’re already emotionally invested in owning said item before the bidding begins.
- Generally speaking, if you’re going for something specific, it’s because it’s a nice thing – and because it is a nice thing, there will be other people in the room that are also pre-emotionally invested in owning it.
- Emotions in a room are very good for sellers.
- Here is an example of my own internal dialogue:
- “No. $500 is my absolute maximum.”
- *bidding begins*
- “No wait – $500 is actually my ideal maximum. My absolute maximum is my ideal maximum plus 100 bucks.”
- “THESE PEOPLE ARE SO FRUSTRATING – DON’T THEY REALISE THAT THEY ARE JUST DRIVING THE PRICE UP – THEY DON’T WANT THIS AS MUCH AS ME – THIS IS MINE”
- *wins with $1,000 bid*
- *realises that there’s also a 15% buyers’ premium*
- *weeps*
It’s why I have questions when people describe this process as “price discovery”. You’re not always discovering the price of something: you’re often discovering how crazy people can get in the heat of a bidding war.
Or, rather, there are actually two types of auction:
- A Mostly-Rational Auction: where you get practised bidders who are there to score deals for goods that they plan to sell on at some later date; and
- A Highly-Irrational Auction: where you get amateur bidders who are there to buy something specific that they really want to own, and therefore get hyped into paying a price that looks a lot like: “Fair value for item + ownership premium + emotional VAT for outbidding an opponent + unexpected buyer’s premium”
And those two types of auction can take place concurrently, between one lot and the next. As soon as a lot has two or more bidders who really want it, the practised bidders tend to drop out and let the children bankrupt themselves.
Which brings me to online auctions.
Because online auctions are curious beasts.
The Difference Between Live Auctions and Online Auctions
The biggest difference here is actually a time constraint. At a live auction, the bidding will continue until all but one of the bidders has dropped out. But in an online auction, the bidding expires at a set time, where the person with the highest bid standing will win the lot.
And that’s not the same thing as the person who is willing to pay the most. The time constraint fundamentally alters the bidding strategy – because if you can sneak in at the last possible moment and top the current bid, then you can steal away with a good deal.
By my estimate, the best online bidding strategy is:
- DO NOT BID IN THE EARLY STAGES OF AN ONLINE AUCTION – THIS JUST DRIVES UP THE PRICE
- Decide beforehand what your maximum bid is.
- Watching the bidding in the last minute.
- Aim for a final bid that’s significantly higher than the current bid, but still below your maximum bid.
The reason that should work: all auction bidders want to pay the lowest price that they can. So when they try to scupper a bid at the last minute, they’ll be wanting to do it with the lowest possible bid they can make without losing the auction. If you’re able to fight that instinct, and bid ‘generously’ (provided that it’s still below the most that you’d be willing to play) – then you’re playing by a different set of rules.
Yes, that is some game theory. And yes, I realise that there’s an argument that says “If everyone knows this, then everyone will change their bidding strategy to reflect it” – but empirically speaking, that doesn’t seem to be the case. Most people seem to want to “go with their gut’ in the moment. And gut feels aren’t really into game theory. They’re more into wanting to win while fearful of looking like a fool if they win by paying too much.
Other reasons I know this:
- You still get lots of early bids in an online auction – which are SO ANNOYING; and
- Online Auction houses have developed lots of strategies for dealing with these last minute bid stories.
How Online Auctions Deal With Last Minute Bidding
Option 1: Get Large Enough That Last Minute Bidding Becomes Impossible
On Ebay, you have algorithms that can sweep in and outpip you at the last nanosecond – so if you’re serious about buying the item, then you have to give Ebay your final all-in bid beforehand. That is, when you bid in an Ebay auction, you enter:
- Your current bid; and
- Your maximum bid (although this is optional).
If you enter a maximum bid, then Ebay will automatically increase your bid to a couple of dollars more than any bid that supersedes your current bid, up and until you hit your maximum bid – at which point, you’ll drop out. So as long as you’ve got the highest maximum bid, you’ll win the auction. And if you don’t enter a maximum bid, then you’re almost certain to lose out to a last nanosecond algorithm.
Option 2: Optional Extensions To The Bidding Process
Strauss & Co are an art auction house here in South Africa. Just over two years ago, they developed an online auction page, where they host periodic auctions of contemporary art.
After their first few auctions, I noticed that there was a sudden change to their bidding process (admittedly, I’ve missed the last two online auctions, so I’m not sure if that has changed again). But basically, the new rule was that any lots that had ‘excessive’ bidding activity in the last hour of the auction would automatically have the deadline extended by a further hour – and those extensions would continue until such time as the bidding activity had died down and a clear winner emerged (ie. the person who was willing to pay the most).
Which I thought was pretty interesting.
The reason I’m talking about this: increasingly, I’ve noticed artists auctioning their work off on Instagram. Two in particular:
- Lorraine Loots, who is famous for her miniatures.
- Brian Kesinger, who is famous for his Star Wars – Calvin & Hobbes mashups.
On Instagram, you bid in the comments sections. And if you have a look at some of those auctions, all you’ll see is people crazily bidding up the price so early in the auction that they have no hope of having the winning bid.
Which just goes to show: when it comes to game theory, it works best when you’re in a room of practiced bidders. Throw emotions into the mix, and it’s the Wild West out there.
Happy Monday.
Rolling Alpha posts opinions on finance, economics, and the corporate life in general. Follow me on Twitter @RollingAlpha, and on Facebook at www.facebook.com/rollingalpha.
