Information Asymmetry, Taxicabs and Zillow

NEW YORK (TheStreet) -- When one party has access to more or better information than another, it can difficult for the the two parties to come to an agreeable and efficient market outcome. Just think about how much power used-car salespeople and stock brokers have lost over the past 10 to 20 years. It's tough for the Wolf of Wall Street to sell you stock in shell company XYZ when you can Google search it. Information asymmetry has plagued trade economics and the spread of ideas for tens of thousands, if not hundreds of thousands of years.

Fortunately we live in an era today where information asymmetry is being studied carefully and we have the most powerful tool for spreading information the world has even seen, the internet. Today we'll look at one example of how a party with inferior information can elicit favorable behavior from another and how Zillow  (Z) has become one of the hottest stocks on the market by divulging information that was previously held by a small group of people.

image

When a passenger jumps in a taxicab, there is often a flat charge of $2 to $3 in addition to per mile and per minute fees. The flat charge can be a bit of an annoyance too as it often constitutes a significant portion of the total fare. But when a rider is uninformed on key information like the roads, traffic patterns, or is traveling in an unfamiliar city, the upfront charge quietly becomes the rider's best friend.

Let's face it, passengers are often subject to a huge information asymmetry barrier with cab drivers. Without the the flat fee cab drivers would love to take their unsuspecting passengers on an nice long ride making sure to go out of the way to hit all the most congested roads within a reasonable distance of the most efficient route. Here's where the flat fee comes into play.

The flat charge paid to get in a cab becomes a game changer by changing the economic incentives that the driver faces. Instead of long hauling everyone who hops in the car, cab drivers can now make more money by getting riders from point A to point B as quickly as possible. With flat fees in place the driver's incentive becomes to turn over as many customers as possible because each time he or she does there is another flat fee to be collected.

The taxi example shows one way we can skirt information asymmetry, but it still doesn't provide an ideal solution. Cab services would run even more efficiently if every passenger had access to a perfect system of maps and real time traffic indicators that would give the rider perfect information about which route the driver should take. We could even highlight the route the driver should take on the computer monitor in the back seat of cabs and create an alert if the driver deviates from the suggested route without the passenger's permission. That technology already exists today to a large extent, but once everyone has access to that information the flat fees we pay just to jump in a cab could become superfluous.

Right now we are seeing a wave of innovation in the divulgence of information. Being better informed gives all players in a market the capacity and confidence to make better and more transactions. Buying a used car is difficult if you know nothing about its history, that's why companies like Carfax have become so successful. Having access to information about the car's history not only gives the interested more confidence about potentially buying the car but it also helps him or her to ballpark a price that makes sense based on any prior incidents or accidents that the vehicle may have incurred. If we had perfect information about the history of each car, they wouldn't lose 30% to 40% of their value just for being a used car the second they are driven off the lot.

SSYS Chart
SSYS data by YCharts

The revenue chart at the top of this article shows why Zillow's stock has been so hot. Zillow?s year over year revenue growth has been extremely steady at about 70% in each quarter over the past two years.

image

So what's Zillow's secret to success? When you boil it down their business is about spreading information on pricing for home buyers and renters. They've created a huge database with some handy search features and methods for valuing houses and apartments. Zillow provides a great benefit to buyers and renters because it takes a lot of the guesswork out of figuring out how much to pay for a home.

When accurate home pricing information is more publicly available, it's easier for buyers and sellers to come together and agree on pricing. Anytime you have a system that can deleverage intermediaries like real estate agents by breaking down information asymmetry barriers, you are on the doorstep of something with serious potential to disrupt.

>>Read More: Why Housing Starts Have Peaked, Maybe Forever

>>Read More: 5 Big Stories For the Rest of 2014

>>Read More: Colorado Moves to Solve the Cannabis Banking Problem

At the time of publication the author held no positions in any of the stocks mentioned.

This article represents the opinion of a contributor and not necessarily that of TheStreet or its editorial staff.

More from Opinion

Elon Musk's Latest Twitter Tirade Is the Dumbest Thing on Wall Street

Elon Musk's Latest Twitter Tirade Is the Dumbest Thing on Wall Street

Elon Musk's Twitter Tirade Is the Dumbest Thing on Wall Street

Elon Musk's Twitter Tirade Is the Dumbest Thing on Wall Street

Why Google's Search Momentum Won't Be Badly Hurt by New EU Rules

Why Google's Search Momentum Won't Be Badly Hurt by New EU Rules

Flashback Friday: Amazon, Chip Stocks, Memorial Day

Flashback Friday: Amazon, Chip Stocks, Memorial Day

Time to Talk Tesla: What Happened This Week, Elon?

Time to Talk Tesla: What Happened This Week, Elon?