Auction

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An auctioneer and her assistants scan the crowd for bidders

An auction is a process of buying and selling goods or services by offering them up for bid, taking bids, and then selling the item to the winning bidder. In economic theory, an auction may refer to any mechanism or set of trading rules for exchange.

There are several variations on the basic auction form, including time limits, minimum or maximum limits on bid prices, and special rules for determining the winning bidder(s) and sale price(s). Participants in an auction may or may not know the identities or actions of other participants. Depending on the auction, bidders may participate in person or remotely through a variety of means, including telephone and the internet. Auctions are generally funded by a sales commission paid by the seller to the auctioneer or auction company. In addition to this there is sometimes a buyer's premium on the hammer price.

[edit] History of the Auction

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Artemis, ancient Greek marble sculpture. In 2007, a Roman-era bronze sculpture of "Artemis and the Stag" was sold at Sotheby's in New York for $25.5 million, by far exceeding its estimates and setting the new record as the most expensive sculpture as well as work from antiquity ever sold at auction.

An 18^th century Chinese meiping porcelain vase. Porcelain has long been a staple at art sales. In 2005, a 14^th century Chinese porcelain piece was sold by the Christie's for £15.68 million, or $30.6 million. It set a world auction record for any ceramic work of art.^[1]

Auctioning can be traced as far back as 500 B.C.^[2] According to ancient Greek scribes, the more generally accepted auction occurred first in Babylon in 500 B.C. During this period, auctions were held annually, and women were sold on the condition of marriage. It was considered illegal to allow a daughter to be sold outside the auction method. Women with “beauty” engendered higher bidding, women without “beauty” had to pay a dowry to be accepted into the auction, and thus the price would be negative.

During the Roman Empire, following military victory, Roman soldiers would often spear the ground to mark the location of spoils in which goods and property were seized. Roman business agents were said to have accompanied warriors into battle to help facilitate expected sales. The Romans also used the auction to liquidate their own property. For example, Marcus Aurelius is said to have auctioned prized heirlooms and furniture, (an auction that, as legend has it, lasted over two months). The most legendary auction occurred in the year 193 A.D. when the entire Roman Empire was put on the auction block by the Praetorian Guard. On March 23rd, The Praetorian Guard first killed Pertinax the emperor, and then announced that the highest bidder could claim the entire Empire. Didius Julianus outbid everyone else for the price of 6,250 drachmas per Guard, an act that initiated a brief civil war. Didius was then beheaded two months later when Septimius Severus conquered Rome.

During the end of the 18^th century, soon after the French Revolution, auctions came to be held in taverns and coffeehouses to sell art. Such auctions were held daily, and catalogs were printed to announce available items. Such Auction catalogs are frequently printed and distributed before auctions of rare or collectible items. Many of these catalogs may be very elaborate works themselves, with considerable details about the items being auctioned.

During the American civil war, goods seized by armies were sold at auction by the Colonel of the division. Thus, some of today's auctioneers in the U.S. carry the unofficial title of "colonel". Auctioneers are usually trained in the legal and practical aspects of conducting auctions. Some jurisdictions require auctioneers to be licensed and bonded.

Major auction houses include Christie's, Sotheby's, Lyon & Turnbull, Bonhams and J.P.Humbert Auctioneers Ltd. The Stockholms Auktionsverk, the world's oldest auction house, was established in 1674 in Sweden. In the United States, Butterfield and Butterfield (now Bonhams and Butterfields), Skinner and are among the major players. A relatively recent phenomenon is the specialty house such as Rago, which does exclusively 20th century decorative arts and furnishings.

Internet auctions, such as eBay, eBid, GoIndustry and FreeBids, have become very popular with the prevalence of Internet. Other websites, such as AuctionZip and Auctioneers, display live auction listings from auctioneers nationwide.

Auctions held by members of the United States Executive Branch are commonly held which feature property that was seized that was, to what they believed, used in the event of a crime. The issue of the morality of this process is debated and is what some would compare to the act of stealing.

[edit] Types of auction

It has been suggested that Mystery auction be merged into this article or section. (Discuss)

[edit] JEL Classification

In the Journal of Economic Literature "Classification System" D stands for "Microeconomics" with division D4 for "Market Structure and Pricing" and subdivisions JEL:D44 for "Auctions" and D46 for "Value Theory". (C7 for "Game Theory" and C78 for "Bargaining Theory").

[edit] Auctions: Characterization

Tuna auction at the Tsukiji fish market in Tokyo

Fish auction in Honolulu, Hawaii

Auctions can differ in the number of participants:

• In a supply (or reverse) auction, m sellers offer a good that a buyer requests
• In a demand auction, n buyers bid for a good being sold
• In a double auction n buyers bid to buy goods from m sellers

Prices are bid (or offered) by buyers and asked by sellers. Auctions may also differ by the procedure for bidding (or asking, as the case may be):

• In an open auction participants may repeatedly bid and are aware of each other's previous bids.
• In a closed auction buyers and/or sellers submit sealed bids

Auctions may differ as to the price at which the item is sold, whether the first (best) price, the second price, the first unique price or some other. Auctions may set a reservation price which is the least/maximum acceptable price for which a good may be sold/bought.

Without modification, auction generally refers to an open, demand auction, with or without a reservation price (or reserve), with the item sold to the highest bidder.

Supply auction

Demand auction

Double auction

[edit] Primary types of auction

• English auction: This is the type of auction commonly used by the English auction houses like Sotheby's, Christie's, and Phillips and J.P.Humbert Auctioneers Ltd. Participants bid openly against one another, with each bid being higher than the previous bid. The auction ends when no participant is willing to bid further, or when a pre-determined "buy-out" price is reached, at which point the highest bidder pays the price. The seller may set a 'reserve' price and if the auction fails to have a bid equal to or higher than the reserve, the item remains unsold. If there is no reserve price, the auction is called absolute.

In some cases, bids may be made by an absentee (called Commission Bidding), by leaving them with the auctioneer, or by phone or by Internet (in which case live bids may also be visible online).

A variant popular in the time of Samuel Pepys was the Candle auction 'auction by an inch of candle' in which the winning (highest) bid was the last one to be made before a small piece of lit candle died out.^[3]

Such auctions can be vulnerable to collusion: Two or more bidders act together to win the auction. Following the auction result, the "loser" threatens to sue the winner, who then proposes a settlement. The settlement is actually the pre-agreed reward for the loser's cooperation. This strategy was described by the economist Susan Athey.

• Chinese auction: Basically, a raffle.

• Dutch auction: In the traditional Dutch auction the auctioneer begins with a high asking price, which is lowered until some participant is willing to accept the auctioneer's price, or a predetermined minimum price is reached. The winning participant pays the last announced price. The Dutch auction is named for its best known example, the Dutch tulip auctions. ("Dutch auction" is also sometimes used to describe online auctions where several identical goods are sold simultaneously to an equal number of high bidders.)

• Sealed-bid first-price auction: Also known as Sealed High-Bid Auction or First-Price Sealed-Bid Auction (FPSB). In this type of auction all bidders simultaneously submit bids so that no bidder knows the bid of any other participant. The highest bidder pays the price they submitted.

• Sealed-bid second-price auction, also known as a Vickrey auction: This is identical to the sealed first-price auction, except the winning bidder pays the second highest bid rather than their own. This is very similar to the proxy bidding system used by eBay, where the winner pays the the second highest bid plus a bidding increment (e.g., 10%). The amount of the increment will be in the 1.5% to 10% range, depending on the rules of the particular auction house. The term "tick size" increment is sometimes used.

• All-pay auction: An auction in which all bidders must pay their bids regardless of whether they win the prize. The highest bidder wins the prize. The all-pay auction is often used to model lobbying (bids are political contributions), or other competitions.

All of the private value auctions listed above are revenue equivalent assuming complete information, meaning that they all result in the same expected revenue for a seller.

[edit] Time requirements

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Each type of auction has its specific qualities such as pricing accuracy and time required for preparing and conducting the auction. The number of simultaneous bidders is of critical importance. Open bidding during an extended period of time with many bidders will result in a final bid, that is very close to the true market value. Where there are few bidders and each bidder is allowed only one bid, time is saved, but the winning bid may not reflect the true market value with any degree of accuracy. Of special interest and importance during the actual auction is the time elapsed from the moment that the first bid is revealed to the moment that the final (winning) bid has become a binding agreement.

Dutch auction or (a low) Posted price are pricing methods, used when speed is important. Swedish auction or French auction are used when accurate pricing is important. Asking price, English auction or First price auction are used in most other cases. The diagram shows typical time requirements:

     (Asking price)        x     x            x    x
      Swedish auction                x
      Simplified Swedish auction  x
      Candle auction        xx
            x      x       x English auction
    x       x                French auction 
    x Dutch auction
  x   Second price auction 
      Swiss auction                x    
  x   First price auction
  x  (Posted price)     
  0    10   20    1    5   10    1   10   20   1   12
    Seconds         Minutes         Days       Months

English auction (since 1674) is used for chattel (20 seconds), art, antiques (90 seconds) and (especially in Australia) for real estate (10 minutes). A valuation and/or a SOB Suggested Opening Bid is announced. At least two bidders are required.

Candle auction (since 1490) preceded English auction. (15 to 20 minutes).

Dutch auction (since 1887) is used for wholesale cut flowers, tobacco, farm products, fish and other perishables. (4 seconds).

First price auction (or sealed bids) (since 1770) is used for industrial real estate, building contract work and whenever only one or very few bidders are expected to participate. (1 second).

Swiss auction (since 1950) is used for building contract work, where the winning bid is subject to certain conditions. The bid is thus not immediately binding for the winning bidder. (5 days).

Second price auction (or Vickrey auction) (since 1961) is used for treasury bills. (1 second).

French auction (or Tâtonnement or Walrasian auction) (since 1874) is used for gold, stocks and bonds. (4 to 20 seconds).

Swedish auction (or Swedeauction) (since 1982) is used for various types of family homes. (10 days). Spectrum auctions are usually of this type too. (The General Services Administration GSA uses on-line auctions that are practically the same as Swedish auction. GSA is the United States government agency for the sale of surplus real estate).

Simplified Swedish auction (since 2002) is used for most family homes in Sweden's metropolitan areas. (4 days).

Asking price is not an auction. This pricing method emerged about 1200 B.C. for chattel in Iraq. It is still used for chattel, second-hand cars and real estate, especially outside the metropolitan areas. (Lasting one year in a business recession). In a rising market, what starts as an Asking Price, may eventually become an English Auction, if surprisingly many bidders show up.

Posted price is not an auction. This pricing method emerged about 2000 B.C. for real estate in Israel and was reintroduced in 1850 at new department stores in France. It is mostly used for massproduced products such as food, new retail articles and newly-built real estate. (1 second). Since 1980 a barcode often instantly sets the price at the check-out counter.

[edit] SOB, Suggested Opening Bid

There will always be some kind of (rough) estimate as to what the object will fetch. In an ascending open auction it is considered important that there should be at least a 50 percent increase in the bids from start to finish. To accomplish this the auctioneer must start the auction by announcing a Suggested Opening Bid, SOB, that is low enough to be immediately accepted by one of the bidders. Once there is an Opening Bid there will quickly be several other higher bids submitted. Experienced auctioneers will often select an SOB that is about 45 percent of the (lowest) estimate. Thus there is a certain margin of safety to ensure that there will indeed be a lively auction with many bids submitted. Several observations indicate, that the lower the SOB, the higher the final winning bid will be. This is due to the increase in number of bidders attracted by the low SOB. When 50 bidders compete with each other the winning bid will be about twice as high as when only two bidders compete. Often with Swedish auction and sometimes with English auction there will be more than 50 bidders.

Real life observations conducted in 1992 at an auction at Stockholms Auktionsverk indicated that for very similar oil paintings a SOB of SEK 150,000 gave a winning bid of only SEK 90,000. On the other hand a SOB of SEK 75,000 gave a final bid of SEK 125,000. At least theoretically then a SOB of SEK 60,000 would have given SEK 135,000. (Painted around 1800 by Pehr Hilleström).

A Chi-square distribution shows many low bids but few high bids. Bids "show up together"; without several low bids there will not be any high bids.

Another approach to choosing a SOB: The auctioneer may achieve good success by asking the expected final sales price for the item, as this method suggests to the buyer the amount of the item's particular value. For instance, say an auctioneer is about to sell a $1,000 car at a sale. Instead of asking $100, hoping to entice wide interest (for who wouldn't want a $1,000 car for $100?), the auctioneer may still suggest the opening bid of $1,000; although the first bidder may finally begin bidding at a mere $100, the final bid may more likely approach $1,000.

[edit] FBQ, Final Bid Quotient

Estimations shown in Auction catalogs are based on market appraisals. The (winning) final bids may be well above or well below estimates. There is often a (secret) Reservation price which is often set at 80 percent of the estimate. The estimate may also serve as a SOB. The FBQ, Final Bid Quotient will normally be in the 0.8 to 2.8 range, but can occasionally land very far outside these limits. Sometimes a minimum acceptable bid is announced instead of a SOB or an estimate.

Bid shading involves placing a bid at only 80 percent of the SOB (or sometimes even lower). This way Winner's curse is avoided.

[edit] Other auction terminology

This section may require cleanup to meet Wikipedia's quality standards. Please improve this article if you can (July 2007).

• Silent auction: This is often a variant of an English auction, where bids are written on a sheet of paper, and at the predetermined end of the auction, the highest listed bidder wins the prize. This auction variant is often used in charity events, and many items may be auctioned simultaneously. Participants submit bids normally on paper, near the item. Other variations of this type of auction may include sealed bids. The highest bidder pays the price he or she submitted.

• Digital art auction: In this indefinitely long auction, designed for unreleased works that are trivially reproducible at zero cost (recordings, software, drug formulas), bidders openly submit their maximum bids (which may be adjusted or withdrawn at any time). The seller may review the bids and close with a price of their choosing at any time — the successful bidders that pay this price are those whose bid meets or exceeds it, and these are the only bidders who receive a copy of the item.

• Open outcry auction: This type of auction can refer to any auction where the auction is conducted orally for people to hear. This type of auction also refers to what is used in stock exchanges and commodity exchanges, where trading occurs on a trading floor and traders may enter verbal bids and offers simultaneously. Transactions may take place simultaneously at different places in the trading pit or ring. This type of auction is being replaced by electronic trading platforms.

• Unique bid auction: In this type of auction users post blind bids and are given a range of prices they can place a bid in, often a capped limit. The highest, or lowest, unique bid wins. For instance an auction is given a maximum bid of 10. If the top five bids are 10, 10, 9, 8, 8 then 9 would be the winner being the highest unique bid. This a popular online type of auction.

• Buy-out auction: This auction has a predetermined buy-out price in which the bidder can end the auction by accepting the buy-out price. The buy-out price is set by the seller. The bidder can choose to bid or use the buy-out option. If no bidder chooses to utilize the buy-out option, the auction ends with the highest bidder winning the auction.

• Combinatorial auction: A combinatorial auction is an auction in which bidders can place bids on combinations of items, or “packages,” rather than just individual items.

• Absolute auction, also known as an Unreserved Auction, No-reserve Auction or Auction Without Reserve, is an auction with no minimum bid amount, no set starting bid, no seller confirmation of the high bid price, and no buybacks of the property being offered by the seller of any agents of the seller. The highest bidder will purchase the property no matter the high bid price. This type of auction is designed to attract the maximum participation from the buying public as the seller has committed to convey their property to the highest bidder without limitation. It does offer buyers excellent opportunities from time to time, however. A 2003 Virginia statute defines an absolute auction as "an auction where at the time of the auction sale the real or personal property to be sold will pass to the highest bidder regardless of the amount of the highest and last bid."

In terms of security/privacy, there are two main types of auctions:

• In a private auction the identities of the bidders are hidden, so anyone that buys the item can remain anonymous. This is normally done for either security reasons such as rare gems or art, or to avoid embarrassment if the item is more risque.

• In a public auction, the bidders' identities are not hidden and anyone is welcome to attend the auction.

In terms of auctioneers and auction items, we can differentiate three types of auctions:

• exchange auction — also known as commodity auctions or exchange-commodity auctions, are the most closed to the new participants. The participants include a number of core professional buyers, who monitor each other to ensure that no one is 'cheating' on the community
• sale auction — for art and one-of-a-kind items
• dealer auction — for collectibles, cars or machinery

If more than one identical item is sold, there are two possible generalizations of the second-price auction. In a uniform-price auction, all of the winning bidders pay the price submitted by the highest non-winning bidder. Bidders will not typically bid their true value in a uniform-price auction with multiple units. In a Vickrey (or second-price sealed-bid) auction, the pricing rule is more complicated, but preserves the property that bidders will bid their true valuation. It is also possible to auction each identical item individually. Once each item has been priced, the winning bidder is entitled to buy the remaining goods at the same price. Items the winning bidder opts not to purchase are auctioned again. This system creates a tension between the desire to hold back on bidding since later items will almost certainly be cheaper, and the chance that by losing the first round of bidding all possibility of purchasing will be lost.

Work in the theory of auctions contributed to Vickrey's 1996 Bank of Sweden Prize. ("Nobel Prize").

• Reverse auction: A type of auction in which the role of the buyer and seller are reversed, with the primary objective to drive purchase prices downward. In an ordinary auction (or also known as forward auction ), buyers compete to obtain a good or service. In a reverse auction, sellers compete to obtain business.

[edit] Collusion

Whenever bidders at an auction are aware of the identity of the other bidders there is a risk that they will form a “Ring” and thus manipulate the auction result. By agreeing to bid only against outsiders, never against members of the “Ring”, competition becomes weaker, which may dramatically affect the final price level. After the end of the official auction, an unofficial auction will take place among the “Ring” members. The difference in price between the two auctions will then be split among the “Ring” members.

On the opposite side, the owner of the object being auctioned may increase competition by taking part in the bidding himself (but drop out of the bidding just before the final bid). In Britain and many other countries Rings and the bidding on one's own object are illegal. See collusion.

In South Australia a Dummy bid is a criminal offence but a Vendor bid (shill, schill) or a Co-owner bid below the Reservation price is permitted, if clearly declared as such by the auctioneer.

[edit] Common uses for auctions

Auctions are publicly and privately seen in several contexts and almost anything can be sold at auction. Some typical auction arenas include the following:

Farm clearing sale, Woolbrook, NSW.

Grass-fed cattle at auction, Walcha, NSW

Wool buyers' room at a wool auction, Newcastle, NSW.

• the antique business, where besides being an opportunity for trade they also serve as social occasions and entertainment
• in the sale of collectibles such as stamps, coins, classic cars, fine art, and luxury real estate
• the wine auction business, where serious collectors can gain access to rare bottles and mature vintages, not typically available through retail channels
• in the sale of all types of real property including residential and commercial real estate, farms, vacant lots and land.
• for the sale of consumer second-hand goods of all kinds, particularly farm (equipment) and house clearances and online auctions.
• sale of industrial machinery, both surplus or through insolvency.
• in commodities auctions, like the fish wholesale auctions
• in livestock auctions where sheep, cattle, pigs and other livestock are sold
• in wool auctions where international agents purchase lots of wool
• Thoroughbred horses, where yearling horses and other bloodstock are commonly auctioned off; and
• in legal contexts where forced auctions occur, as when one's farm or house is sold at auction on the courthouse steps.
• travel tickets. One example is SJ AB in Sweden auctioning surplus at Tradera (Swedish eBay).

Although less publicly visible, the most economically important auctions are the commodities auctions in which the bidders are businesses even up to corporation level. Examples of this type of auction include:

• sales of businesses
• spectrum auctions, in which companies purchase licenses to use portions of the electromagnetic spectrum for communications (e.g., mobile phone networks)
• private electronic markets using combinatorial auction techniques to continuously sell commodities (coal, iron ore, grain, water...) to a pre-qualified group of buyers (based on price and non-price factors)
• timber auctions, in which companies purchase licenses to log on government land
• timber allocation auctions, in which companies purchase timber directly from the government Forest Auctions
• electricity auctions, in which large-scale generators and consumers of electricity bid on generating contracts
• environmental auctions, in which companies bid for licenses to avoid being required to decrease their environmental impact
• debt auctions, in which governments sell debt instruments, such as bonds, to investors. The auction is usually sealed and the uniform price paid by the investors is typically the best non-winning bid. In most cases, investors can also place so called non-competitive bids, which indicates an interest to purchase the debt instrument at the resulting price, whatever it may be
• auto auctions, in which car dealers purchase used vehicles to retail to the public.

[edit] See also

• Types of auction:
  • Art sale
  • Business to business auction
  • Candle auction
  • Car dealer auctions
  • Chinese auction
  • Estate sale
  • French auction
  • Iraqi auction
  • Swedish auction
  • Swiss auction
  • Vickrey auction
  • Reverse auction
  • Philatelic auction
• Famous Auction houses:
  • Bonhams
  • Bonham's and Butterfields
  • Christie's
  • Dorotheum
  • eBay
  • Fontaine's Auction Gallery
  • Heritage Auction Galleries
  • Lyon & Turnbull
  • Phillips de Pury & Company
  • Sotheby's
  • Stockholms Auktionsverk

• Other topics:
  • Tenders
  • Auction School
  • Auction Theory
  • Auction Chant
  • Auction Network
  • Bid shading
  • Dollar auction
  • Game theory
  • Online auction tools
  • Online auction business model
  • Winner's curse

[edit] Further reading

• Klemperer, Paul (2004). Auctions: Theory and Practice. ISBN 0-691-11925-2.  Draft edition available online. (Oxford professor, born 1956, 256 pp).
• Milgrom, Paul (2004). Putting Auction Theory to Work, 384 pp. Cambridge University Press. ISBN 0-521-53672-3. (Stanford professor, born 1948).
• Nissanoff, Daniel (2006). FutureShop: How the New Auction Culture Will Revolutionize the Way We Buy, Sell and Get the Things We Really Want. The Penguin Press. ISBN 1-59420-077-7.  (Hardcover, 246 pages)
• Smith, Charles W. (1990). Auctions: Social Construction of Value. ISBN 0-520-07201-4. 
• McAfee, R. Preston; McMillan, John (1987). Auctions and Bidding. Journal of Economic Literature. Vol. 25, pp 699-738. (McAfee, CalTech professor, born 1956. McMillan, 1951-2007, Stanford professor).

[edit] References

Wikimedia Commons has media related to:

Auctions

[edit] External links

• Auction at the Open Directory Project